7-30-08, 9:50 am

Everyone is now accustomed to hearing that the financial crisis in the United States and in Britain was caused by American financial institutions lending money to unsafe borrowers for buying houses, thereby breaking with the long-established rule of lending only to those with a steady income and a good credit rating. So it was all the fault of irresponsible borrowers!

While it is true that the bubble burst because of those borrowers being unable to repay their loans, the truth is more complex and it lies at the heart of advanced capitalism. Greed is the real cause, within an unscrupulous system that causes mass murder by slow degrees of poverty, starvation and lack of health care all over the world. Capitalists operate by exploiting the workers of the world, paying us as little as possible for our labor and accumulating the surplus value in private profit. This system is facilitated by a lending structure refined over the last two hundred years.

From the 1930s until about 20 years ago, banks and other lending institutions, as well as central banks, operated a lending system that was based on the ability to repay, having learned from the Wall Street crash, the Great Depression and other banking failures that trust must be established or the system will collapse. The policy was one of encouraging savings by the well-off (how the not-well-off were to manage does not enter into capitalist ideology) by offering high interest rates and encouraging people to save. This gave the banks the resources they needed so as to have a reliable reserve in case of a crisis.

Governments offered secure savings bonds that could be relied on. Companies that were relatively secure because of the reliability of their profits over time were also considered safe for careful borrowers. Government bonds, and to a lesser extent these reliable shares, were taken up by local government bodies, pension funds and trade unions and also by smaller companies and well-off individuals. This was the everyday world of that section of society that could have any savings or borrowings at all.

Because of capitalism’s inherent instability, several things were happening at the same time that radically changed this way of operating. Stock exchanges, which exist wherever there is private ownership, became more and more volatile; and as more and more brokers, financial investment companies, private equity companies and dealers came into existence and were relatively unregulated, more and more unscrupulous practices grew up. Increasingly, trading meant trading in other financial services and loans, not in industry, in manufacturing or production companies. When available money becomes divorced from its real value – land and natural resources, agriculture, industry and manufacturing, infrastructure, and housing – the system is inevitably going to collapse.

Central banks are the cushions for private banking. They avert financial chaos when things go wrong, at the expense of the taxpayer, the unemployed, and the poorest people. This monetary policy regulates the economy, in so far as it is in their control.

This type of economy requires the constant consumption of commodities; and as manufacturing companies were moving out of the United States to avail of cheaper labor in Asia, and later to the former socialist countries, unemployment was rising; wages were contracting, and money was not being spent. The Federal Reserve System (the US central bank) lowered the interest rate to one percent, allowing for cheaper credit for purchasing consumer goods and housing.

This was not enough, and the interest rate continues to be lowered. And now the Federal Reserve is giving out a rebate of more than $150 billion to people on lower incomes, who will receive a check for $600 per individual (a family could receive $1,200 or more), for the sole purpose of spending it on consumer goods. There is no question of helping evicted occupiers get back their homes, or of helping those about to be evicted, as the whole shocking scheme is to give the money to capitalists so that they can continue to prop up a disintegrating system.

At the same time vast amounts of money were available from the world’s largest suppliers of capital in the globalized economy – from Asia (including China, now the biggest exporter of capital), Europe, Russia, and the Middle East. The United States uses up about 85 percent of total global capital lending. These funds are used to pay for the US government debt and for a massive expansion of American personal debt. This availability of funds sent the United States on a debt-madness spiral that has repercussions all over the world. As more and more money went into financial services and property markets, less and less was available for investment in industry, new technology, or better training of the work force. In the United States and Britain 30 percent of the national product is derived from returns in the financial services market.

The sharks make a killing

The sharks of the investment world could not wait to get their hands on this money and make a killing. The financial world is full of investment companies, financiers and private operators who are experts in making massive profits out of betting on the movement of other people’s money. One such group are the hedge fund companies and managers, who gather a group together and approach wealthy investors and suggest a portfolio of funds that will bring much higher profits than can be got from buying shares or government securities. (There are also some individuals who are so wealthy that they can operate alone: about a dozen such people are so wealthy that they own more individually than the total wealth of whole countries.) Such people have made billions with single transactions.

Other investment companies make profits by “leverage” and “derivatives.” Leverage entails a finance company using borrowed money above its equity or share ownership and betting on the future price variations of loans. This is done to a greater extent in times of expected low risk but is very dangerous in times of high risk. Derivatives arise when an investor sells debts and mortgages of mixed value and does it many times over; the purchaser bets on the rise in value of the debts and mortgages in the future.

The large banks and finance companies borrowed huge sums from foreign investors. But the big problem was, how were they going to pay them back? Reserves were low, because of excessive consumption nationally and low savings. They did several things: they relied heavily on selling “prime” or reliable mortgage debts to other investment companies and hedge-fund groups; and they offered mortgages and credit to people who never hoped to own a house or get any credit. “Teaser” loans offered credit with low repayments or much-delayed repayment terms – but the complicated small print imposed punitive repayments later. One woman described her loan repayment rising by 75 percent in one year.

Mortgage brokers swarmed on these vulnerable people, and even followed them to their work-place. People were offered deals that must be signed at once or the offer would be withdrawn.

The banks were not worried, as the price of housing was rising so fast that if they foreclosed they would make huge profits by reselling; or the purchaser could let or resell the house themselves and still be able to repay their loan. People on the look-out for a quick profit began buying several houses, with no backing.

The traditional criteria for lending with security were gone out the window. What was worse, the banks began reselling these “sub-prime” mortgages to other financial groups; they in turn were selling them on to other investment groups. At first they all sold the mortgages of prime (low-risk) borrowers; but as they became more greedy they began selling the high-risk mortgages as well.

All groups were now putting batches of low-risk, medium-risk and high-risk loans and mortgages together and reselling them as structured loans. The hedge-fund managers were selling them on to foreign banks and financial institutions as safe investments, disguising their risk. They would assemble institutions or individuals who were willing to take different levels of risk. The one willing to take the least risk – usually a pension fund – would be guaranteed that they would get first claim in case of any default. The medium-risk taker was promised the next available funds; and the highest-risk taker – usually a hedge fund – would get the remainder.

The risk was supposed to be small, as only a certain proportion of the total debt was high-risk, and a high profit could be expected generally. However, this was not really the case. Sub-prime (high-risk) borrowing as a proportion of all mortgage borrowing went from one in every thirteen in 2001 to one in every four in 2006.

Credit agencies employed by the banks and lending institutions to evaluate risk did not rigorously evaluate the real risk but were willing to take the word of those who engaged them – and they knowingly supplied figures that were based on historical data: that defaulters in this market were between one and two percent. But at the time of giving this figure it was already climbing to five and six percent; it has continued to rise and is now at 15 percent, and still rising.

Bonuses for the profiteers

Senior employees of banks were receiving huge bonuses (often one or two billion dollars annually, as well as commission), because the banks were afraid they would lose them to hedge-fund operators and investment companies. Lawyers were also well aware of the real situation, but they were also getting huge fees, as were the accountants. They were all on the make.

Banks then went to insurance companies and insured the debts, on the grounds that as house prices were rising the risks were small. The insurance companies then went to the buyers of the debt and charged them premiums on the mortgage debt sold by the bank.

In the meantime the banks were lending to each other in the usual way, and nobody seemed to be aware that the lending banks were using fictitious money, based on unreliable loans. But as the banks making the loans were selling them on, they had no more responsibility or care for what happened to the debt. It seemed that money was more plentiful than it had ever been since the beginning of capitalism. But disaster was just around the corner.

In 2005 things began to change drastically, as rising oil and food prices caused a huge rise in inflation, and the Federal Reserve had to raise interest rates, which went from one percent to 5¼ percent by the end of 2006. Mortgage rates began rising sharply.

House prices rose so far above the average wage that no-one could afford the new houses coming onto the market. Builders tried to sell at a discount but found they couldn’t sell at all. The poorest borrowers could no longer pay their mortgages, and a massive spate of evictions began. Large sections of American towns, sometimes whole streets, were boarded up, and misery was visited on the most vulnerable people in the country.

The banks and other lenders began to run short of funds to repay debts, and confidence was lost, with the resulting massive losses. In August 2007 the French bank BNP Paribas announced that it could no longer discern which of its loans were safe. One by one other banks realized that they had bought fictitious money. Nobody could trust funds from another bank, as they were afraid they would be buying bad money. Inter-bank lending just stopped.

Other foreign investors who had funds in American institutions do not know how much bad debt they have financed. We now know that the biggest American banks and financial companies—Citibank, HSBC, Bear Sterne, and Merrill Lynch—have had massive losses, amounting to almost $100 billion. In Britain, Northern Rock, Royal Bank of Scotland and Barclay’s Bank lost millions.

All these institutions have been bailed out by their central banks. The Federal Reserve continues to bail out financial institutions and to cut interest rates to keep the financial system from collapsing. The Bank of England continues to offer emergency funds to commercial banks, with longer repayment terms, and also continually cuts interest rates. This was supposed to allow the banks to start lending again, but instead they have just kept the money themselves.

This is all happening while the number of evictions is the highest ever. There has been an increase of 32 percent in Britain since the beginning of 2007, expected to rise to 50 percent by the end of 2008, which means 45,000 evictions or repossessions by the end of this year.

Germany and Switzerland are also badly hit. The Organization for Economic Co-operation and Development, the International Monetary Fund and private banks give different estimates, ranging from €440 billion to €960 billion, so nobody really knows.

Around the world, smaller banks and financial institutions have gone bust. Hedge-fund groups and private equity firms have bought up companies all over the world, destroying any local control, redirecting company policies into even worse exploitation and ruthlessness.

Leaving aside any other criticism of how a capitalist economy works (or doesn’t work), the madness and illogicality of the wealth of countries being decided by stock-market traders and smart operators is the most incredible fact of this destructive system. They have become so powerful that they influence whole countries’ financial markets. It is reliably claimed that such speculators deliberately interfered with the Hongkong Stock Exchange in 1998, to attack its currency and its stock market and thereby make huge gains by buying and selling at massive profits. This was stopped only when the Hongkong government bought up a large proportion of the stock market to stabilize the market.

The governor of the Central Bank of Iceland claims that a similar move was attempted by a group of hedge-fund cartels, which attempted to devalue the Icelandic currency and make a killing by buying up the devalued loans and shares to sell later at a huge profit and cause a run on the banks.

Whole towns are destroyed

Four Norwegian towns have also suffered by reckless trading. They bought securities based on American bonds that had been packaged by Citigroup and purchased by Terra Securities, and they have now lost most of their investment of more than €60 million. Pension funds around the world have been affected similarly; the full extent will not be known for some time.

Exporters to the United States have also been affected as the becomes weaker, and their products are much dearer by comparison. The German government complains bitterly about this, and it will affect at least one million German workers.

Ireland, where the economy is dangerously skewed in its dependence on the housing market, is badly hit, as lending for mortgages has become very tight, large deposits are required, and houses are not selling. Builders are laying off workers, and economic growth goes down by one percent for every ten thousand houses not built. This will further exacerbate the housing shortage. Credit for people already in debt will become much dearer, inflation will rise, and the poorest will suffer most – as usual with rising prices.

Spain, like Ireland, is over-reliant on the housing market, selling its housing to foreign buyers (including Irish speculators), who are not simply buying a second home but buying and selling to make a profit and also for rental income, while whole communities and their culture are destroyed.

And what has happened to the perpetrators of this debacle? They have escaped scot-free. A few lost their jobs but got hundreds of millions in severance money, apart from the killing they had already made personally. And what of the rest of these monsters? They can’t be touched, as the system would come crashing down if they were not rescued – and they know it. Individuals are enjoying huge wealth, paying little or no tax and laughing at the rest of the world.

Fun for the super-rich

As reported recently on the BBC2 television program “Super-rich: The greed game,” these people do not know what to do with their money. Companies specializing in supplying their needs without question say they have been asked, among other mad requests, for a jet fighter as an ornament in one woman’s garden; a Premier League footballer was hired to play with a man’s son; cars costing several million dollars have a waiting-list of two years; there is a waiting-list for watches costing a million dollars; personal submarines are made to order. Prizes of an island or a jet airliner were offered recently in the Irish Times for investing in property in Dubai.

Governments representing these capitalists, and now the European Union, keep telling us that public services are wasteful and inefficient, that the public are best served by privatization and competition; and this has become the mantra of people who are dissatisfied with public services that are crippled by lack of funding. They have swallowed the lie of the protectors of these crooks who have knowingly destroyed the lives of millions of people and don’t care. As Bill Gates said, “That’s capitalism!” Bandits control the world, and they are destroying it.

We can look only to the working class, now regrouping and reorganizing its fight against abuse and waste. There is hope too in the alliance emerging in Latin America between Cuba, Venezuela, Bolivia, and Nicaragua, who together are showing that there are alternatives to this iniquitous system.

Original source: Socialist Voice (Dublin)