The Limits of the Paper Economy

The turmoil in equity markets and sub-prime mortgage lending that broke out this last August in the US shows a deeply imbalanced capitalist system that lurches from panic to boom and back again. The crisis in mortgage lending and equity markets stands revealed in its voracious need to cannibalize itself.

Every year since World War II, incomes for US workers have risen, until 2001 that is.

As incomes of workers declined an average of .5 percent per year for US workers in the period from 2001 to 2006, capitalism was undergoing a paper boom. An economic bubble predicated on the indebtedness of the households of US workers and feeding off of their basic need for housing. An initial cut in the Fed’s discount rate in August from 6.25 to 5.75 points, failed to pacify the markets and further reductions brought this rate down to 5 points by the start of November. The Federal Reserve’s response to the crisis is to bail out the big lenders and encourage the growth of more debt by lowering their lending rates. While this approach brings in short term results for the profit hungry markets, it risks far greater economic disasters for capitalism in the long term.

The first “sub-prime” or “no documentation” loans in the US housing markets saw their appearance in the mid nineties. These were made for no more than 70 percent of the purchase price of a home. After the cuts in the Fed’s benchmark rates began in 2001 the familiar solution of present day capitalism of relying on debt to fuel economic expansion, sub-prime lending then began to take off. Before too long Wall Street firms were offering to buy “no documentation” loans at 100 percent of the value of a home. By 2005 some 40 percent of existing mortgages were refinanced allowing for high sustained levels of consumer spending as homeowners made more than $9 trillion worth of mortgage equity withdrawals in the period from 1997 to 2006. Lending agencies could hand out the sub-prime loans knowing that they could repackage them as AAA rated bonds, passing off bad debt to large financial institutions who in turn get bailed out by central banks as the costs of modern capitalism get passed off inevitably to be borne by the working class itself.

While this current turmoil in financial markets may have begun in the US, it has laid low far off financial institutions such as Northern Rock in the UK and SachsenLB, the state bank of Saxony, Germany.

The economic turmoil that started in the subprime lending markets has in turn put into question the value of so-called “structured investment vehicles” or SIVs set up by the big three Wall St Banks. The first such investment vehicles were set up by the financial giant Citigroup back in the 1980s. As lending markets dried up this put into question the value of the short-term debts in the form of commercial paper, which is in turn invested into higher-risk and thus higher-yield investments in the form of securities. SIVs are not bound by the same legal requirements to maintain the same level of capital reserves as other more traditional funds. These SIVs are now having trouble selling their commercial paper so easily and are hence exposed to greater losses as credit tightens. In the wake of the news that Citigroup reported a 57% loss in third quarter earnings, Citigroup, along with the Bank of America and JP Morgan Chase announced on October 15 that they would set up a fund of some $80 to $100 billion dollars. This plan was in turn quickly answered by the US Treasury Department, which responded to the announcement by helping organize a $100 billion dollar fund to buy off SIV assets in the event of a “fire-sale” on the markets. ⁽¹⁾ Merrill Lynch & Co., largest brokerage in the world itself has posted third quarter losses of $2.4 billion dollars and has admitted to having written off some $8 billion in assets linked to sub-prime mortgage securities. All of the big wall street gambling houses have currently posted serious losses.

The year 2006 saw earnings decline for workers who work full-time year-round jobs, by a figure of 1.1 percent for men and 1.2 percent for women respectively. Percentages of those receiving employer paid benefits fell from 60.2% to 59.2% in 2006. In the same period the number of children without health insurance rose from 8 million to 8.7 million approximately. In the year 2000 employer-based health care programs covered almost 66% of all children in the US.

Last year this dropped below the 60 percent mark. So while incomes rose in 2006, the number of people living under the government poverty line of $20,614US remained unchanged. The small average increase of .7 percent in median household incomes came after several years of declines in earnings. ⁽²⁾ What can be seen here are the effects of a massive transfer of wealth to the insatiable capitalist class.

The average year in which an owner occupied dwelling was built was 1973, while for renters the average year in which their dwellings were built was 1970. Since the late seventies new housing and new rental units have suffered a noticeable decline from the days of the postwar heights of homebuilding.

A cursory look at statistics regarding the age of housing stocks shows an ageing housing stock and a dearth of new rental housing and an increasing number of new dwellings going unsold and unrented. The average year in which an owner occupied dwelling was built was 1973, while for renters the average year in which their dwellings were built was 1970.

Since the late seventies new housing and new rental units have suffered a noticeable decline from the days of the postwar heights of homebuilding. In the bulk of all the hottest property markets in the US it is safe to assume that the bulk of the housing, rental and otherwise was built in the 1970s or earlier. ⁽³⁾

So while capitalism is failing to build housing, homelessness is at epidemic levels and at numbers that are difficult to measure, with varying estimates ranging from between 1 million and 4 million people in the US being homeless.

In the postwar period, capitalism deepened and extended its financial mechanisms for spreading risk with increasingly complex financial instruments, like hedge funds. Today we see an economy, reliant on such financial mechanisms to hold off the crisis of falling rates of profit to give to the capitalist class those profits it can no longer receive in sufficient quantity from the production process itself. Such mechanisms only arrest this tendential fall in the rates of profit.

Nowhere in the world does capitalism provide adequate housing for all who need it, not even in the US. As housing costs skyrocketed, particularly in the most heavily populated regions of the US, wages were declining or remaining stagnant. From the very start, this last economic boom could not be sustained but was destined to signify a massive shift in wealth as the boom went bust. For workers in the US, most personal assets are tied up in housing and dependent on it to increase or at least maintain its value.

The end of easy credit and debt-fuelled consumption in the US could signify a turn for the worst in the global economy, particularly in countries dependent on exports to the US.

While central banks rush to protect the big financial lenders, workers will find their credit is harder to come by.

As housing costs skyrocketed, particularly in the most heavily populated regions of the US, wages were declining or remaining stagnant.

While capitalism can create only homelessness, hunger and war, workers have the solution to the problems created by capitalism literally at their fingertips. They can take the first steps to defending their own interests. They can do this by breaking with the left, the unions and the Democratic Party and forming their own organizations of struggle. A stable capitalist democracy is a utopian dream, it is up to the working class to break this historical impasse, towards a better, more humane world, ruled by workers themselves through their own organizations of power.

(1) online.wsj.com .

(2) US Census Bureau. Income, Poverty and Health Insurance Coverage in the US 2006. Current Population Reports. August 2007 census.gov .

(3) US Department of Housing and Urban Development. American Housing Survey for the US, 2005. Current Housing Reports. August 2006.