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Economy - October 2011

Theory of the Crisis

Abstract

The current crisis just widespreads the speculative bubble phenomenon to the global economy. A massive middle class is both the accomplice and the victim, as democracy is the citizen's responsibility. Stock swindlers then became simple self-delusion. Ultimately, the interest rate is the real cause of bubbles.

Growth and Bubbles

What is now called "crisis" is quite a simple generalization of the speculative bubble phenomenon to the global economy. In the past, what we call "real economy" produced a surplus invested in new activities projects or in expanding old business. But the essence of investment is a bet on the future. In the stock exchange, the value of a share depends on the future value of the company. One must not think in constant value terms. Since companies do not attract investors with declining or stagnating prospects, stock exchange is structurally a decoy.

Basically, there is no problem. In rich countries, during the last two centuries, the real economy is characterized by a strong growth due to many innovations. This growth is ongoing worldwide. Emerging countries are experiencing growth rates in double digits, especially in some areas, even if the overall average is slightly below 10%. It is not the case in formerly developed countries where some areas are rather sharply declining, even when the overall average is still positive at 1 or 2%. There, they are now reduced to quibbling over decimals.

The Greek crisis is the first part of the explanation of the current situation. For thirty or forty years, gradually, rich countries falsified accounts, living on debt to support growth artificially. The real economy continued to grow due to the technological progress that lasts regardless anyway. The bubble effect is masked as long the consumer can follow. This effect only appears when, as for the year 2000 Internet bubble, enterprises were overrated, not in absolute terms, since this value is reached ten years after, but in wrongly predicting the speed to reach it, and of course in the number of surviving start-ups. The effect only applied to speculators.

Debt and Tax break

Of course, the final limit of living on debt is debt capacity. Concerning State, when a budget is unbalanced, the reason is that politicians give tax breaks to citizens since democracy is in essence the fact that the community takes on his own expenses. The French Revolution has simply replaced taxes by "contributions". In America, "tea parties" want to replay the cutting of taxes on tea of the American Revolution. But the only alternative is to pay taxes to Washington (or to each state) rather than to England. Benjamin Franklin has already settled the fact that there were only two things for certain, death and taxes. Apparently, some people have not yet understood it, two hundred years later.

Politicians compete in imagination to invent tax breaks, to the wealthiest who fund their political campaigns, to the poor with tax exemptions and to the middle class by useless investments to maintain activity. The conventional solution was to take with one hand what they give with other or robbing Peter to pay Paul. The new solution of debt can make everyone happy, temporarily. The nouveau rich, like the old ones, do not want to share or pay for the poor. The growing mass of upper classes of rich countries has amplified the phenomenon of tax avoidance and tax breaks. In Europe, privatization did the rest by putting the family jewels on the market.

Globalization and Middle classes

Actually, this system has benefited from the remnants of the Cold War that divided the world in two. Development only use to focus in rich countries to the detriment of the Eastern bloc, including China, which persisted in voluntary isolation and to the detriment of the South, which were left out of growth. The collapse of the East opened up the market and restarted the machine. Technological advances finally spread to the South. A real development process began because of the formation of a local bourgeoisie that concentrates enormous wealth in the countries producing raw materials. But this improvement is still hidden and burdened by rapid population growth in the South.

Globalization requests to review anything to scratch. The middle class in rich countries is still richer than elsewhere else. A good half of the population is very wealthy, but realizes they are no longer the top of the world pyramid, compared with much higher class of emerging countries, besides their domestic one. This middle class is using the misery of the poor or impoverished to complain or to be associated with lower-middle class, still richer than the countless poor in developing countries.

I recently proposed an analysis regarding the pyramidal structure of wealth as no longer existing in rich countries. In another paper, "Populists Vs Bobos" I showed that analysts don't understand this new sociology as they don't want to upset their clientele. In fact, contrary to what is heard, social mobility worked too well. A middle class majority replaces the Third Estate and gives the mistigris to a few outcasts (often illegal aliens) replacing the Marxist sous-prolétariats (but the former analysis was probably already wrong):

                                   
               
                   
Former sociology: "Third Estate" majority     New sociology: Middle class majority

The current situation results from the formation of a massive middle class, which now considers itself as being abused because it was previously pampered by debts in order to artificially support economy, like in Greece, and get politicians re-elected. The very rich expenses which act currently as a foil, and as fantasy, mainly benefit to upmarket service providers from upper middle class. The austerity measures as economic response will of course cause a recession. The American solution is still and always the stimulation in consumption, the European solution consists in a vague attemp to these austerity measures, twisted in one way or another. Germany was more disciplined, but it was only to take the market as "winner takes all."

Madoff and Casino

The world premiere of the enrichment of a huge middle class allows global participation in the investment game. It was also the case in America before the 1929 crisis. Even local authorities are involved. I already mentioned, four years ago, the bankruptcy of contributory pension schemes paid with baby boomers' contributions. When those ones reach the retirement age, with the increasing of life expectancy, pensions' promises are impossible to keep. Everyone was a party of it. Politicians could increase the retirement pensions, with the complicity of the unions, they are condemned not to be able to pay the former youths ones, like any common Madoff.

The general enrichment has generated cash. Money always attracts crooks and more or less reckless managers. Formerly, the bubbles were settled by bankruptcy. The systemic contradiction resulting from the whole citizen's involvement in the stock market means that everyone cannot go bankrupt, because that would mean that the future economy doesn't exists. And it is also obviously impossible to pay off losses since the citizens would pay back, through taxes, their own losses in the stock market. This operation is not even, since there is an intermediation, bankers or public authorities, which have an operating cost. The issue of corruption and criticism of banks simply means what happens when there is no surplus.

About the Kerviel case (a trader who makes the French Société générale Bank loses five billions euros in 2008), I said: "Traders' recruitment prides itself to high level of mathematization. One wonders why! This case gives the impression of only playing double or quits. As long as credit is unlimited, you can always recoup your losses". Traders take their commission on the way, until they break the bank. We see that the same is true for states with the Greek crisis.

I already mentioned the solution to charge the poor. It is not enough to know that the principle is to "privatize profits and socialize losses". We have to be aware that's mean increasing taxes and bank charges or rates. I spoke about usurious rates for poor consumers loans when rich consumers benefit of subsidized rates because they are assumed to be creditworthy. What I said then:

"The real issue is financial rate. The fact that there are different rates for rich and poor means that the poor finance the loans of the rich. The justification of the high failure possibility of the poor is a joke, because the risk is all the more stronger as the rate is high. What is being considered as a solution is a creative prediction for the exclusive benefit of those who create it. Moreover, when rich fail, and they do, the damage is equivalent to the sum of many failures of poor. The European crisis allows generalizing the solution. Belonging to the same whole must involve the same conditions. This also must define citizenship between rich and poor within the same state. The real solution is not a lack of financial system, but a democratic financial system. As the gap between rich and poor, the gap between the rates must be reduced drastically. In fact, the reduction of the rate differential is simply reducing the wealth gap by taking into account the time factor. The Greek crisis has been the way of realizing it."

The only alternative to discharge the system would be to let speculators who lost in the stock market or bankers who have bad debts take on their own losses. With the relative premiere of much more numerous middle class, there are fewer poor to tap, unless targeting the developing world. It was the colonial-imperialist situation. Today these countries are relatively autonomous and begin to participate in globalization with the same consequences. But we can consider that financing U.S. consumption by Asian savings, belongs to this kind of scam.

"Indiflation" and Rates

One reason for this creeping bubble, as world growth is real, is a complex phenomenon of simultaneous inflation-disinflation ("indiflation?"). I already spoke about inflation due to the increase in managers' incomes. The result is essentially the real estate price raise, but not only. We have had a crisis of the art market, the Internet bubble, the rise of various upmarket services, as they don't benefit the increase in productivity (as hairdressers, in Jean Fourastié's book about the post World War II economic boom). A trend to specialization in upmarket services, the only ones remaining economically sustainable, can cause an exclusion of the mass of consumers, on the mode of "Dubai stage of capitalism", that I also called "monégasquisation".

Disinflation results of relocation and permanent progress in sectors like information technology. Without this huge drop in prices, purchasing power would have fallen or, more likely, the managers' incomes would not have increased, since it relies on profits of globalization. In a still Cold War West, with a smaller market, growth would have been limited to the increase in productivity. The idea of "de-globalization" expects to return to this situation, found idyllic in retrospect, but which was not either more enchanting than the post World War II period. Dropped prices on bottom of the range products or technological ones amounts mainly to a transfer of capital to Asia, since the profits are reinvested there.

This dual phenomenon of simultaneous inflation-disinflation has always existed. There are always growing industries and declining industries, growing regions and declining regions. At national level, persons concerned by this were what was called class struggle (relegated persons are in revolt rather than the poor). In the context of globalization, countries become regions. The solution to form large union like Europe restores the regionalization of crises. Re-nationalizing economy would be a big mistake. The problem is that the struggle between the rich and poor has a nationalist connotation. The most symptomatic of this is Belgium, as I mentioned already, where the development was reversed between Wallonia and Flanders, with a reversal of the essentialized judgments of abilities (Flemish were considered as stupid peasants, Walloon are now considered as living on government handouts). The case of the Greek crisis, despite the caricatured excesses of this particular case, shows that the rich need the poor to buy their products and services, and to pay high interest rates. This is true both nationally and internationally but one is used to mask another. And globalization of the social division rich/poor, produces losers in developed countries, who were unprepared to it. Given that global growth is real, due to the increased size of the market of emerging countries, there would be no economic problems without the phenomenon of bubble that constantly overestimate growth.

Everyone can easily understand the repeated crises principle of these recent years. When you play double or quits at the casino, if you make a winning streak, it breaks the bank quickly. In ten rounds, you multiply the stake by 1024, with twenty throws, by just over a million. But it's large numbers fantasy. When talking about big companies, they cannot increase their value per one thousand before the crash, especially if the other companies follow suit. It is the same for a state or the whole World. At constant scope (excluding real market growth, acquisitions, upsizing, etc..), we can assume that doubling value causes a stock market correction. At the time when the growth of big business was a few percent, an overvaluing of 3% per annum last twenty-four years to increase the price by two (1.0324 = 2.03), which could be unlikely due to the observation time. An overvaluing of 15% per annum last five years (1.155 = 2.01). No surprise if more frequent reappearances of cyclical crises when there are such artificially rates without regard to any real growth.

Jacques Bolo

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