Published in the Guardian Cif alongside responses from Jonathon Freedland and Sheila Lawlor:

Ed Balls said sorry for Labour’s record on ultra-light-touch financial regulation, and that must be acknowledged.

But apologies are just not enough. He and Ed Miliband must stop attacking his electoral base, “hardworking families”, many of whom are trades unionists.

As Balls recognises, unless urgent action is taken, this may be the gravest economic crisis in history – given the global integration of finance and the growth of world population.

So Balls must go further.

First, he must declare loudly and forcefully that Labour will never again be captive to neoliberal central bankers like Alan Greenspan; or private bankers like Sir Fred Goodwin of RSB.

Labour must never again be seen to be in the pockets of the finance sector.

Balls and Miliband must give the Labour party back to its electoral base, to its members.

They must both distance themselves from Labour leaders that profit from links to the global finance sector.

Second, Balls must stop talking about the deficit; about “tough decisions on tax and spending” – the last thing the economy needs. It is private debt – 469% of British GDP and six times the public debt – that is the real crisis facing Britons. It is debt-deflation, and debt-deleveraging, and collapsing private investment that pose the gravest threat to us all.

Given this, there is an urgent need for government spending on environmentally sound projects to generate economic activity – jobs, the income, the savings that will help protect us from Armageddon.

Until he does, his apologies will count for nothing but special pleading.

Read the original article on Cif here >

Some of our friends were irked by my observation this week that Paul Krugman is:

“an extremely controversial figure for Keynes scholars. He champions a mainstream interpretation of Keynes’s work known as the neo-classical synthesis”

Many rightly applaud him for using his platform at the New York Times to defend further fiscal stimulus in the US – against a hostile political crowd, not to mention the downright opposition of neo-liberal economists – and we commend him for that.

However, because he has such an important platform, it matters more that he lacks a proper understanding of the nature of credit. Our beef with him – and the vast array of neo-liberal economists -  is well expressed, and evidenced by Steve Keen in his latest blog: “Dude! Where’s my recovery?” Namely that:

“Neoclassical economists ignore the level of private debt, on the basis of the a priori argument that “one man’s liability is another man’s asset”, so that the aggregate level of debt has no macroeconomic impact. They reason that the increase in the debtor’s spending power is offset by the fall in the lender’s spending power, and there is therefore no change to aggregate demand.

“They are profoundly wrong on this point because neoclassical economists do not understand how money is created by the private banking system—despite decades of empirical research to the contrary, they continue to cling to the textbook vision of banks as mere intermediaries between savers and borrowers.”

(The only point I would quibble with is Steve’s use of the word ‘decades’. We have known for centuries how money is created by the private banking system – in Britain at least since 1694 with the founding of the Bank of England.)

Steve then goes on to quote directly from Paul Krugman’s 2010 paper with Gauti B. Eggertson, in which they write:

“Ignoring the foreign component, or looking at the world as a whole, the overall level of debt makes no difference to aggregate net worth — one person’s liability is another person’s asset.” (Paul Krugman and Gauti B. Eggertsson, 2010, pp. 2-3; emphasis added)

This was written at a time when economic recovery around the world was stalling – because individuals, households, corporations and banks are burdened by a vast bubble of debt, and are reluctant to undertake further investment or risk, until debts have been paid down or ‘de-leveraged’.

Neo-liberal dismissal of ‘the overall level of debt’ and their failure to accept that banks create credit in excess of savings, helps explain why central bankers at the Bank for International Settlements continue to argue for banks to hold and increase ‘capital cushions’ against the risk of losses. This is based on the nonsense of what some define as ‘fractional reserve banking’ – namely that there is a link between ‘capital’ in the bank, used as a basis for lending – and credit, and that only a fraction of capital is needed to facilitate lending. And that lending is constrained somehow, by the level of capital in the bank.

In fact, as we were made well aware by the vast bubble of credit/debt created by the private banks – there is no relation between ‘capital’ in the bank and lending. The money for a loan does not exist, until a borrower applies for it. And contrary to widespread belief – loans create deposits.

Steve quotes from the Senior Vice President, Federal Reserve Bank of New York, Alan Holmes who wrote four decades ago that monetarists suffered from “a naive assumption” that:

“the banking system only expands loans after the [Federal Reserve] System (or market factors) have put reserves in the banking system. In the real world, banks extend credit, creating deposits in the process, and look for the reserves later. The question then becomes one of whether and how the Federal Reserve will accommodate the demand for reserves. In the very short run, the Federal Reserve has little or no choice about accommodating that demand; over time, its influence can obviously be felt.” (Alan R. Holmes, 1969, p. 73; emphasis added)

Which is why Amar Bhidé, professor of economics at Tufts University, and previously at McKinsey, was so right in a recent interview (hat tip Yves Smith) in which he talked about today’s “rampant, extensive criminality” of banks as proof that reform had gone down the wrong path.  He argued that the Bank for International Settlements’ reforms based on ‘capital cushions’ are:

“irrelevant….a waste of time….a fake debate…Because nobody knows what the banks’ risk-weighted assets are……if you don’t know what these are, it is pointless to call for capital cushions…The way regulation (by the BIS) is done…completely misses the point.”

(For the benefit of those that do not follow these debates –‘risk-weighted assets’ represents the credit created by banks and lent on to borrowers, weighted by credit risk according to a formula set by central banks. It is well known that traders in various financial ‘products’ offered by banks as credit are a) ignorant of the risk b) fiddle the risk weightings, or c) pretend there are none. Second, that sleepy and passive regulators (indoctrinated by neo-liberal theory) are none the wiser; and third, that CEOs and other senior bankers have no idea of the level of risk posed by their banks’ activities. Hence the shock and astonishment as hundreds of small and large banks collapsed between 2007-09).

Keynes had no such delusions about the nature of credit, and the ability of banks to create credit. The full title of his great work, is, after all: The General Theory of Employment, Interest and Money.

Which is why we are right to get het up about the way in which economists, including Paul Krugman, continue to ignore or downplay Keynes’s contribution to our understanding of Interest and Money. With that understanding, which Keynes applied to the crisis of the 30s, regulators could begin to tackle bank regulation effectively; and by those means address the present crisis, and hopefully prevent another.

Without that understanding….further crises loom.

Simultaneously published on www.primeeconomics.org.

There was much huffing and puffing by the cheerleaders for premature economic recovery when the Office for National Statistics revealed that the UK was still in recession last week. These same ‘pied pipers’ tried to discredit the ONS’s previous factual announcements. Now the CBI has reported an ‘unexpected’ dip in sales in the service sector and then there was a ‘surprise’ dip in manufacturing during November.

No surprise to those of us living in the real world – with no vested interest in talking up stocks and shares.

And no surprise to those of us watching thousands of jobs disappear as companies as varied as Borders, First Quench (Threshers and other drinks outlets) and General Motors in Luton – cut back, or close down.

And no surprise to the millions of workers whose compensation has fallen for five straight quarters on an annual basis.  I am grateful to Graham Turner of GFC Economics for the chart below – and strongly recommend his latest book ‘No Way to Run an Economy’

]]> http://www.debtonation.org/2009/12/faux-optimism-flawed-economics/feed/ 2 http://www.debtonation.org/2009/08/how-globalisation-ends-debtonation-day-plus-two/ http://www.debtonation.org/2009/08/how-globalisation-ends-debtonation-day-plus-two/#comments Tue, 18 Aug 2009 02:25:51 +0000 admin http://debtonation.org/?p=2712 From Open Democracy: August 13, 2009

“A single day, 9 August 2007, will go down in history as ‘Debtonation Day’ – the beginning of the end of the deregulation and privatisation of finance that marks the era of globalisation.”

I wrote these words on 13 August 2007, in anticipation that the great stock-market

Continue reading ›

From Open Democracy: August 13, 2009

“A single day, 9 August 2007, will go down in history as ‘Debtonation Day’ – the beginning of the end of the deregulation and privatisation of finance that marks the era of globalisation.”

I wrote these words on 13 August 2007, in anticipation that the great stock-market collapse of four days earlier presaged the end of the era of neo-liberal globalisation.

So it has proved.

Read Open Democracy article>

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Have just returned from a flying visit to Iceland, where I was mightily impressed by the warmth and strength of the Icelandic character. Also struck by the pride Icelanders have in the way the financial crisis deepened and strengthened their democracy – leading to the ousting of a corrupt government, and the election of a progressive coalition.

Like many other visitors no doubt, I was bowled over by the austerity of the landscape. These people live on a volcanic island close to the Arctic Circle, and go about their business while mighty tectonic plates regularly shift beneath their feet. Sure those shifts generate massive doses of geo-thermal energy, making this country one of the world’s most sustainable, in energy terms. Nevertheless those plates regularly cause the earth to move, while Arctic gales whistle down glaciers and chill one to the bone, and volcanic rocks litter a treeless landscape. Icelanders – descended from Vikings and Celts -  are an extraordinary and resilient people!

Which is why it was sad to see proud, independent and innocent sheep farmers, fishermen and workers lose their independence to creditors. One complained that Icelanders could handle the severity of financial losses. However, what is unbearable to the Icelandic ‘soul’ is the damage inflicted on their nation’s reputation by a small group of bankers – cheered on by internationally-renowned, neo-liberal economists.

I learned a lot. The one fact that angered me most is that Icelanders that took out loans with domestic banks have had those loans ‘indexed’ to inflation -  by law it appears. Clearly, Iceland was another bank-owned-state, governed in the interests of creditors. If their new government is to represent the interests of the Icelandic people, and not just those of creditors, then legally-binding indexing must be repealed.

Here is more of what I learned:

• Ordinary protesting Icelanders, using and amplifying their voices with pots and pans, drove a government from office. This has given Iceland’s people renewed confidence that they can, and should, remove governments that prioritise the interests of the finance sector over the interests of the people.
• 43% of the new Parliament is made up of women MPs.
• The new Prime Minister, Johanna Sigurdardottir (daughter of Sigurdar) is a woman and openly gay. She is the Minister of Economic Policy, as well as Prime Minister.
• Prominent neo-liberal economists, including Fred Mishkin, a high-profile advocate of ‘inflation targeting’ and Bush nominee to the Federal Reserve, (until he unexpectedly resigned in May, 2008) and Tryggvi Þór Herbertsson, were paid,  I have been reliably informed, considerable sums by the Icelandic Chamber of Commerce to produce a report on Financial Stability in Iceland in September, 2006. The purpose of this report was to keep the banking party going after the near-disastrous ‘mini crisis’ of March, 2006.  The report was the centrepiece of a ‘road show’ promoting Iceland as a haven of financial stability that autumn. (See this speech made in New York by Mrs. Valgerður Sverrisdóttir, Minister for Foreign Affairs of Iceland at the time, and a proud farmer.)
• We know that Fred Mishkin (now of Columbia University) was not the only academic economist to act as cheerleader for Iceland’s reckless bankers. Prof. Richard Portes, President of Britain’s Royal Economic Society, played a similar role. (For more about Professor Portes’s role in the Icelandic saga, go here.)
• A year after the Mishkin Report, in November, 2007,  Prof. Portes produced another report for the Icelandic Chamber of Commerce which concluded that Iceland’s banks were ‘successful and resilient’ and that ‘the banks have been highly entrepreneurial without taking unsupportable risks; good supervision and regulation have contributed to that, using EU legislation.”
• The privatisation of Iceland’s banks began as late as 1998, and was not complete until 2002. See the excellent chart below, courtesy of Stefán Ólafsoon of the University of Iceland.  The banks lost no time in piling  up debts.
• By 2008 – when Prof. Portes wrote his report – private bank liabilities made up 10 – 12 x Iceland’s GDP, according to a reliable source.

• Ratings firms, I was told, maintained the AAA status of Icelandic banks until two days after the collapse of these banks. Have not been able to check this.
• The debt burden falls disproportionately on low income groups. In other words, it was the poor and other low-income groups that were encouraged to borrow and finance the bankers’ party. (See another of Stefán Ólafsoon’s charts below.)

• As a result of the financial collapse, unemployment is expected to rise to 10% in 2009 – particularly difficult for a ‘work society’ Stefán Ólafsoon argues.
• In a new take on ‘inflation targeting’ Icelanders have the principal on their loans to domestic banks indexed to inflation. In other words, if inflation rises, the value of their debts rise too! Inflation is currently at 11.9%.
• Creditors are protected from inflation – by contract law, it seems.
• After the crisis  broke on the 6th October, 2008, 95% of Iceland’s stock market was wiped out.
• The $2.1 billion loan to Iceland is one of the biggest ever made by the IMF.
• Iceland introduced currency and capital controls in December, 2008, and operates these effectively, according to an adviser to the Prime Minister. Effectiveness is maintained by revising the regulations every two weeks to fix loopholes.
• The IMF supported the introduction of capital controls ‘forcefully’.
• As a result of capital controls, interest rates had fallen from 18% at the height of the crisis in September, 2008, to 13% last Thursday. Rates for corporate borrowing remain in the region of 17%.
• The UK has loaned to Iceland the money needed to compensate UK depositors. Revenues from the sale of Iceland banks will be used to pay interest on this loan.
• GDP is expected to drop 10-12% this year.
• Consumption has declined by 25%.
• Real wages have fallen by 10%
• Real incomes are falling by 12-15%.
• 20% of families are in negative equity. The comparable figure for the US is 28%.
• Icelanders have made substantial losses on their savings
• In a bid to lower employer costs, people have had 2 working hours cut each week.
• Iceland’s fish exports, thanks to currency devaluation, now have an edge over those of Norway.
• For the last 30 years, Iceland has imported coffins. Because of the decline in the value of the Icelandic Krona, two companies have started making coffins – and are now exporting these to Canada.

I am waiting to hear of the new Prime Minister’s cabinet appointments this weekend. Sincerely hope that, in tackling this crisis, she calls on a wider range of economic advisers – and advice – than her predecessors. Or indeed than that offered by IMF staff.

There is surely a case for inviting economists who share the new Parliament’s values and are not the ‘hired guns’ of bankers –to visit Reykjavik to offer independent advice. Only after considering a range of such independent advice, can all those good women parliamentarians make sound judgements and begin the long process of ending the debt bondage of Iceland’s low-income earners.

To make Icelanders once again proud “independent people” in the words of Halldor Laxness, the country’s great Nobel-prize-winning novelist.

24th October, 2008

The NS has published a short piece this week: “Economists simply would not accept that their model could fail“.  An introductory sentence is not mine: “Who would have predicted..that prudent Gordon Brown (would)  breach the EU cap on government spending?” Am writing to the NS to ask for a correction to be published.

22nd October, 2008.

I am dictating this piece down the phone from Budapest in Hungary where I have just arrived to deliver a lecture to the Ybl Club. My hosts were in a state of shock on arrival because the central bank of Hungary has just raised interest rates from 8.5% to 11.5%…

This is yet another example of central banks focussing on the concerns and interests of one half of the debt equation – namely the creditors – while using interest rates to punish the other half i.e. the debtors. Although I have not seen evidence of overdraft rates in Hungary I am assured that they are well above 14-15% just as in the UK. The impact on small businesses and on corporates trying to stabilise their businesses in the midst of this turmoil can only be imagined. Once again central bank governors are exacerbating the disease at the heart of this economic crisis: excessive credit that is now being deleveraged chaotically. By these actions central bank governors are guaranteeing that healthy businesses and households are weakened and bankrupted thereby turning the disease into an epidemic of defaults and bankruptcies. Ironically it will be the defaults of corporates, small businesses and households that will, through negative feedback loops, further destabilise the financial system. It is extraordinary that the highly trained professionals inside central banks and the finance ministry cannot see what must be obvious to those in the streets of Budapest who would not consider themselves economists, namely that this action while it might temporarily attract foreign flows of capital will only serve to prolong the crisis.

Keynes would be turning in his grave. After 1929 he emphasised the essential point that monetary theory should be used to dampen down the fever of financial crises. The current celebration of his work focuses entirely on his use of fiscal policy to revive the corpse of depression-hit economies (for more on this read the economist Geoff Tily: Keynes’s General Theory, the Rate of Interest and ‘Keynsian’ Economics). Keynes however preferred the far cheaper and more effective route of using monetary policy to lower all rates of interest. short and long, real, safe and risky If only the central bank governors and in particular the governor of the European central bank  followed all of Keynes’s policies, not just his fiscal policies!