Sunday, September 21, 2008

The week that China began to rule the World

Dan Atkinson is an interesting writer on economics. He writes for the Mail on Sunday, but also co-writes with the Guardian's llead economics writer Larry Elliot. Their book 'Fantasy Island' was a frightenly prescient work and their rather bleak world view has been largely vindicated by recent events (much more on the money than Anatole Kaletsky for example, who although very intelligent, has in my opinion been discredited by the turn of events in the global economy).

Dan Atkinson has written a thought provoking article on the ramifications of the recent financial storms shaking the US and UK:

"The week that China began to rule the world

Just as the first guns of August 1914 blew away a world dominated by the European empires, so may the past nine days of sheer madness in the financial markets have marked the point at which the established developed economies - of which the United States is the undisputed leader - lost control of the world economy and its future.

Despite all the talk of a 'global financial crisis', the convulsions that began in August 2007 and have shaken us ever more violently since have been concentrated in the so-called Anglo-Saxon economies - chiefly Britain and America.

It is a 'global crisis' only in the sense that a baseball competition that comprises mainly Americans is the 'World Series'.

NEW ORDER: The crisis has shifted the balance of power on Wall Street in China's favour

To admirers, these are the go-getting economies that have been happy to see bog-standard activities, such as manufacturing, mining and agriculture, emigrate to the developing world while concentrating on financial services and the 'creative' industries such as advertising, film-making, music and the media.

To critics, they are the 'Ponzi economies', so-named after American fraudster Charles Ponzi whose 'investment' scheme paid returns to existing members not from successful investments but out of the subscriptions of new members.

Britain, America and, to a lesser extent, Australia, New Zealand, Ireland and others have become addicted to debt.

This addiction has been fed by a financial services industry bloated to many times its natural size, and itself in need of huge amounts of borrowed money. The City and Wall Street, having asset-stripped domestic industry, set about lending consumers the money to buy imported goods that we no longer make.

In a final twist, the money is often borrowed from the same countries, such as China, that are selling us the goods.

The Anglo-Saxon economies, say the critics, are in the position of the dissolute aristocrat who can wear fine clothes for only as long as his tailor is willing to offer credit. At some point, the tailor is going to want cash.

Actually, after recent events, it does not much matter whether one is a critic or not.

The Anglo-Saxon model of turbo-charged finance, minimal banking regulation, gung-ho borrowing and ever-more-complex 'financial securities' has crashed into insolvency on both sides of the Atlantic as surely as any ill-advised business venture.

Northern Rock's nationalisation in February was merely the starter course in what has turned into a banquet of bail-outs.

US mortgage lenders Fannie Mae and Freddie Mac were taken into public ownership, lumbering taxpayers with £3trillion of liabilities, all on top of tens of billions of pounds of 'liquidity' (money, to the rest of us) supplied on easy terms by the Bank of England and the Federal Reserve Board to the very people who got us into the mess in the first place --the banks and others.

On Friday came the showstopper - that fervent new convert to the socialist cause, US Treasury Secretary Henry Paulson, announced another wave of nationalisations.

Not of institutions, this time, but of the reeking sewage in Wall Street's stables - the estimated £1trillion-plus of bad debt sitting on banks' balance sheets as a result of their own reckless greed in lending to 'sub-prime' borrowers who were unable to repay.

Having learned of this latest example of the sort of government interference that they supposedly detest, the Masters of the Universe in London and New York jumped for joy and share prices rocketed.

Like very much better-paid versions of British Leyland workers in the Seventies, bankers and brokers took the arrival of taxpayers' money as the signal to return to their bad old ways - in this case an addiction to inflated asset prices.

With Mr Paulson, his boss President George Bush and Federal Reserve chairman Ben Bernanke tossing the trillions around in a casual manner - and Alistair Darling, Gordon Brown and the Bank of England Governor Mervyn King acting similarly but on a smaller scale over here - it would be tempting to see these emergency measures as a show of strength. But chronic weakness is at the root of the 'rescue packages', in two ways.

First, they are as much about looking after Britain and America's creditors as about protecting ordinary British or American people. In return for their goods, China and other developing economies have taken vast amounts of sterling and dollar denominated paper - shares, currency, bonds - whose value they naturally wish to see preserved.

As with any other creditors, they want to know their money is safe. And to make it so, Britain and, particularly, America have piled up yet more borrowing.

Like spendthrifts shifting debts from one credit card to another, the Anglo-Saxon economies are on the fast track to ruin.

Second, and perhaps more important in the long run, the deeper weakness disclosed by the colossal bail-outs is that neither Britain nor America really believes in its own economic ideas any more.

When the chips are down, no one, not bankers or brokers, Ministers or officials, really thinks that the financial markets know best.

No, this is not a 'global financial crisis' - it is a crisis that hurts countries in relation to how close they moved to the Anglo-American model in which the financial tail wags the industrial dog.

Yet the sun is probably setting even in the less indebted and more productive developed countries such as Japan and Germany.

The dominance of the Group of Seven countries - America, Britain, Japan, Germany, France, Italy and Canada - is no more guaranteed than was that of the pre-1914 British Empire.

Indeed, it was only a few hundred years ago that China, India and the Middle East were global players, while Europe was a backward, disease-ridden region on the edge of the world.

As Europe expanded it was thought to be the weakness of the 'mysterious' East that it was good at weaving carpets, writing poetry and the like, whereas the 'practical' West was good at making things.

The current British notion of a 'creative economy' turns this on its head.

Ultimately, however, our own weakness has less to do with the work we do than with one simple four-letter word - debt. It is because we and the Americans owe so much money that power and influence are slipping away from us to our creditors.

There was an early warning of this on the evening of October 19 last year in Washington, when the G7 finance ministers invited to dinner a number of developing countries that operate so-called sovereign wealth funds.

These are, effectively, government-run investment schemes that offend against G7 notions of free enterprise - or did, before the above mentioned nationalisation spree.

The G7 rather hoped that these countries would sign up to a code of conduct that would force them to act like ordinary commercial investors.

Chillingly for the developed countries, the dinner guests were uninterested in the views of their hosts (and, mainly, debtors) whom they more or less ignored.

As for the nine days that have just gone by, the bad news is that they have shown the British and Americans vainly trying to shore up a mountain of debt with what amounts to more debt.

The good news? These nine days may well be studied in the schools of the future as the moment when there was an irreversible global power shift.

If so, take heart - you are living through history.

The only problem is that, from now on, you and your leaders no longer control it."


Andy said...

John Gray on the fall of America and the rise of China:

"A shattering moment in America's fall from power

The global financial crisis will see the US falter in the same way the Soviet Union did when the Berlin Wall came down. The era of American dominance is over

Our gaze might be on the markets melting down, but the upheaval we are experiencing is more than a financial crisis, however large. Here is a historic geopolitical shift, in which the balance of power in the world is being altered irrevocably. The era of American global leadership, reaching back to the Second World War, is over.

You can see it in the way America's dominion has slipped away in its own backyard, with Venezuelan President Hugo Chávez taunting and ridiculing the superpower with impunity. Yet the setback of America's standing at the global level is even more striking. With the nationalisation of crucial parts of the financial system, the American free-market creed has self-destructed while countries that retained overall control of markets have been vindicated. In a change as far-reaching in its implications as the fall of the Soviet Union, an entire model of government and the economy has collapsed.

Ever since the end of the Cold War, successive American administrations have lectured other countries on the necessity of sound finance. Indonesia, Thailand, Argentina and several African states endured severe cuts in spending and deep recessions as the price of aid from the International Monetary Fund, which enforced the American orthodoxy. China in particular was hectored relentlessly on the weakness of its banking system. But China's success has been based on its consistent contempt for Western advice and it is not Chinese banks that are currently going bust. How symbolic yesterday that Chinese astronauts take a spacewalk while the US Treasury Secretary is on his knees.

Despite incessantly urging other countries to adopt its way of doing business, America has always had one economic policy for itself and another for the rest of the world. Throughout the years in which the US was punishing countries that departed from fiscal prudence, it was borrowing on a colossal scale to finance tax cuts and fund its over-stretched military commitments. Now, with federal finances critically dependent on continuing large inflows of foreign capital, it will be the countries that spurned the American model of capitalism that will shape America's economic future.

Which version of the bail out of American financial institutions cobbled up by Treasury Secretary Hank Paulson and Federal Reserve chairman Ben Bernanke is finally adopted is less important than what the bail out means for America's position in the world. The populist rant about greedy banks that is being loudly ventilated in Congress is a distraction from the true causes of the crisis. The dire condition of America's financial markets is the result of American banks operating in a free-for-all environment that these same American legislators created. It is America's political class that, by embracing the dangerously simplistic ideology of deregulation, has responsibility for the present mess.

In present circumstances, an unprecedented expansion of government is the only means of averting a market catastrophe. The consequence, however, will be that America will be even more starkly dependent on the world's new rising powers. The federal government is racking up even larger borrowings, which its creditors may rightly fear will never be repaid. It may well be tempted to inflate these debts away in a surge of inflation that would leave foreign investors with hefty losses. In these circumstances, will the governments of countries that buy large quantities of American bonds, China, the Gulf States and Russia, for example, be ready to continue supporting the dollar's role as the world's reserve currency? Or will these countries see this as an opportunity to tilt the balance of economic power further in their favour? Either way, the control of events is no longer in American hands.

The fate of empires is very often sealed by the interaction of war and debt. That was true of the British Empire, whose finances deteriorated from the First World War onwards, and of the Soviet Union. Defeat in Afghanistan and the economic burden of trying to respond to Reagan's technically flawed but politically extremely effective Star Wars programme were vital factors in triggering the Soviet collapse. Despite its insistent exceptionalism, America is no different. The Iraq War and the credit bubble have fatally undermined America's economic primacy. The US will continue to be the world's largest economy for a while longer, but it will be the new rising powers that, once the crisis is over, buy up what remains intact in the wreckage of America's financial system.

There has been a good deal of talk in recent weeks about imminent economic armageddon. In fact, this is far from being the end of capitalism. The frantic scrambling that is going on in Washington marks the passing of only one type of capitalism - the peculiar and highly unstable variety that has existed in America over the last 20 years. This experiment in financial laissez-faire has imploded.While the impact of the collapse will be felt everywhere, the market economies that resisted American-style deregulation will best weather the storm. Britain, which has turned itself into a gigantic hedge fund, but of a kind that lacks the ability to profit from a downturn, is likely to be especially badly hit.

The irony of the post-Cold War period is that the fall of communism was followed by the rise of another utopian ideology. In American and Britain, and to a lesser extent other Western countries, a type of market fundamentalism became the guiding philosophy. The collapse of American power that is underway is the predictable upshot. Like the Soviet collapse, it will have large geopolitical repercussions. An enfeebled economy cannot support America's over-extended military commitments for much longer. Retrenchment is inevitable and it is unlikely to be gradual or well planned.

Meltdowns on the scale we are seeing are not slow-motion events. They are swift and chaotic, with rapidly spreading side-effects. Consider Iraq. The success of the surge, which has been achieved by bribing the Sunnis, while acquiescing in ongoing ethnic cleansing, has produced a condition of relative peace in parts of the country. How long will this last, given that America's current level of expenditure on the war can no longer be sustained?

An American retreat from Iraq will leave Iran the regional victor. How will Saudi Arabia respond? Will military action to forestall Iran acquiring nuclear weapons be less or more likely? China's rulers have so far been silent during the unfolding crisis. Will America's weakness embolden them to assert China's power or will China continue its cautious policy of 'peaceful rise'? At present, none of these questions can be answered with any confidence. What is evident is that power is leaking from the US at an accelerating rate. Georgia showed Russia redrawing the geopolitical map, with America an impotent spectator.

Outside the US, most people have long accepted that the development of new economies that goes with globalisation will undermine America's central position in the world. They imagined that this would be a change in America's comparative standing, taking place incrementally over several decades or generations. Today, that looks an increasingly unrealistic assumption.

Having created the conditions that produced history's biggest bubble, America's political leaders appear unable to grasp the magnitude of the dangers the country now faces. Mired in their rancorous culture wars and squabbling among themselves, they seem oblivious to the fact that American global leadership is fast ebbing away. A new world is coming into being almost unnoticed, where America is only one of several great powers, facing an uncertain future it can no longer shape."

Andy said...

In contrast to John Gray's argument that the Chinese economy has eschewed free market principles, this week China approved short selling and margin accounts, while the UK and US both banned short selling; which country was more free market again?