Keeping capitalism democratic

Desperate times call for desperate measures.

The ailing status of the American economy is making headlines all over the world. In response to this crisis, the U.S. Congress has proposed an unprecedented emergency bailout bill, setting aside US$700 billion for the executive branch to use at its discretion to rid the financial system of unserviceable debt. As of press time, the American House of Representatives has rejected the bill by a margin of 228 to 205, and it is unclear when or if the bill will be reconsidered.

Despite this setback, it is unequivocally necessary that this bill be revised and passed into law. This is not the time for Congress members to score cheap political points with their constituents, nor is it time for a Democratic-controlled Congress to crucify the Bush administration for their economic sins. What is at stake here is not just the American economy, but the globalized system of world finance; and relief must come before the damage is irreversible. But what does this plan mean to you and me, and why is it so important?

It means the world we grew up in, the lifestyle we are accustomed to, and the expectations we have of our future may be in jeopardy. Western liberal democracies — and their ability to reproduce themselves materially — are under attack from the very system that has let us rise to the top: unfettered capitalism. The bottom line is that if bad turns to worse, the world economy may fall out of American control and into the hands of some other country or group of countries. The consequences of such a shift would put the global economy at risk, threaten America’s preeminence as leader of the free world, and possibly spark great power political competition. How exactly is the current financial crisis responsible for this frightening situation?

For the past 13 months, the American economy has been in serious trouble. Following the traumatic attacks of Sept. 11, 2001, the cost of borrowing money in the United States dropped to a historic low in order to spur the already weak economy forward. An unintended consequence of low interest rates promoted the rise of the American real estate bubble, the collapse of which is the catalyst of the current crisis according to George Soros in The New Paradigm for Financial Markets.

With inexpensive credit readily available following 9-11, a boom of speculation occurred, as it was cheaper to borrow money and hedge your bets (most catastrophically on real estate) than it was to save your money. House prices were appreciating faster than the cost of borrowing money, making buying a house on credit, selling it at an inflated price, and profiting on the difference a practical way for consumers to generate wealth. Financial institutions contributed to this symbiotic relationship by repackaging the debt they were owed and selling it on financial markets, as well as by encouraging subprime (meaning risky) loans to customers in questionable financial situations. Credit rating agencies abetted the situation with their lack of due diligence, while the American government failed to regulate effectively the overvalued derivative markets. This situation became critical in the fall of 2007.

In August 2007, housing prices fell rapidly, and the gig was essentially up. The crisis was self-reinforcing, as consumers who speculated with credit now “owned” homes worth less than their mortgages, while banks were left with debts not likely to be repaid. The fallout of this scenario continues to this day, and it has now become clear that the debt created in this latest financial crisis is so great that it is distorting the very liquidity of world markets.

The crisis is just now coming to its dénouement, and what will happen from here is anyone’s guess. The failure of Lehman Brothers and Bear Stearns, coupled with the nationalization of Fannie Mae, Freddie Mac, and American International Group, has led to this climax of the crisis — a historically unprecedented US$700 billion bailout plan that if passed will be above legislative, judicial and constitutional checks and balances. Desperate times do indeed call for desperate measures.

While many commentators both on the left and the right decry saving Wall Street, this bailout is without a doubt required to maintain the integrity of the world banking system. The simple reality is that without the U.S. federal treasury printing money to lend to the banks so as to keep them liquid, the pillars of the global economy may become insolvent and possibly collapse. If you think US$700 billion is a lot of money, imagine the astronomical cost that a loss of confidence in the very heart of the system would create.

Should the American government do nothing, faith in the American banking system will erode further. This would in turn cause other countries — mainly China and the oil-rich Gulf states — to abandon their American dollar reserves and diversify into stronger currencies, further causing the value of the U.S. dollar to slide. This scenario may culminate with the abandonment of the U.S. dollar as the backbone of global commerce. It is this problem — that of maintain the American dollar as the world’s reserve currency — which leads to the dangers facing Western liberal democracies.

The United States dollar is the world’s reserve currency, which means that most other countries use it to buy goods and services, giving America a distinctive economic advantage because it can print the money of international commerce. This has essentially allowed America to live and spend above its means for the past 40 years. Should America’s banks be allowed to fail leading to bank runs, confidence in the greenback would surely erode further, leading to an uncomfortably significant chance that the rest of the world may abandon their American dollars.

Were such a scenario to happen, America would cease to be the centre of globalization, leaving rivals like China, Russia, and even the EU to vie for America’s former status. The economic paradigm of the last 38 years would come to an end, with who knows what replacing it. Yet worst of all is that protectionist sentiments would rise in the United States, leading America to possibly shut themselves out of the overwhelmingly successful global trade order they themselves created after World War Two.

The surprising and stunning defeat of the proposed bill has already sent financial markets tumbling. After a weekend of strenuous negotiations and compromise between Democrats and Republicans, it was believed that the bill would pass quickly through Congress. However, due to shortsighted political posturing for the upcoming House elections, petty politics has sadly put the world economy at risk of collapse.

This brings us to the issue at hand and the danger the Western system of capitalist reproduction now faces. The centre of global commerce — the United States of America — may no longer be the centre of global commerce by the time you are finished exams in December.

Who will protect and defend democratic capitalism should the U.S. dollar cease to be the world’s reserve currency? With the defender of free market capitalism nursing her wounds, other non-democratic-but-capitalist countries like Russia, China, and the Gulf states will begin to challenge the inference that capitalism and democracy go hand and hand. Who will stand up to the authoritarians when America’s economy is in depression and its military bogged down in the Middle East and Afghanistan? The EU lacks a common foreign policy, let alone a cohesive army; and Japan cannot go it alone with China as its neighbour. The United Kingdom may be the best hope, but is too small a player now with the rise of the rest of the world. Should the economic crisis at hand take a turn for the worst, who will be left to defend the West’s greatest victory of the 20th century — the idea that democracy and capitalism are mutually reinforcing?

My hope is that the United States remains in charge, but my fear is that they will not be. If $700 billion is the price of making sure a powerful democracy remains in charge of globalization and the financial world order, then consider it money well spent.

Michael Silicz is the Comment Editor of the Manitoban.