State-Wrecked: The Corruption of Capitalism in America by DAVID A. STOCKMAN | Published: March
30, 2013
The Dow Jones and Standard & Poor’s 500 indexes
reached record highs on Thursday, having completely erased
the losses since the stock market’s last peak, in
2007. But instead of cheering, we should be very afraid.
Over the last 13 years, the stock market has twice crashed
and touched off a recession: American households lost $5
trillion in the 2000 dot-com bust and more than $7 trillion
in the 2007 housing crash. Sooner or later — within
a few years, I predict — this latest Wall Street bubble,
inflated by an egregious flood of phony money from the Federal
Reserve rather than real economic gains, will explode, too.
Since the S.&P. 500 first reached its current level,
in March 2000, the mad money printers at the Federal Reserve
have expanded their balance sheet sixfold (to $3.2 trillion
from $500 billion). Yet during that stretch, economic output
has grown by an average of 1.7 percent a year (the slowest
since the Civil War); real business investment has crawled
forward at only 0.8 percent per year; and the payroll job
count has crept up at a negligible 0.1 percent annually.
Real median family income growth has dropped 8 percent,
and the number of full-time middle class jobs, 6 percent.
The real net worth of the “bottom” 90 percent
has dropped by one-fourth. The number of food stamp and
disability aid recipients has more than doubled, to 59 million,
about one in five Americans.
So the Main Street economy is failing while Washington
is piling a soaring debt burden on our descendants, unable
to rein in either the warfare state or the welfare state
or raise the taxes needed to pay the nation’s bills.
By default, the Fed has resorted to a radical, uncharted
spree of money printing. But the flood of liquidity, instead
of spurring banks to lend and corporations to spend, has
stayed trapped in the canyons of Wall Street, where it is
inflating yet another unsustainable bubble.
When it bursts, there will be no new round of bailouts
like the ones the banks got in 2008. Instead, America will
descend into an era of zero-sum austerity and virulent political
conflict, extinguishing even today’s feeble remnants
of economic growth.
THIS dyspeptic prospect results from the fact that we are
now state-wrecked. With only brief interruptions, we’ve
had eight decades of increasingly frenetic fiscal and monetary
policy activism intended to counter the cyclical bumps and
grinds of the free market and its purported tendency to
underproduce jobs and economic output. The toll has been
heavy.
As the federal government and its central-bank sidekick,
the Fed, have groped for one goal after another —
smoothing out the business cycle, minimizing inflation and
unemployment at the same time, rolling out a giant social
insurance blanket, promoting homeownership, subsidizing
medical care, propping up old industries (agriculture, automobiles)
and fostering new ones (“clean” energy, biotechnology)
and, above all, bailing out Wall Street — they have
now succumbed to overload, overreach and outside capture
by powerful interests. The modern Keynesian state is broke,
paralyzed and mired in empty ritual incantations about stimulating
“demand,” even as it fosters a mutant crony
capitalism that periodically lavishes the top 1 percent
with speculative windfalls.
The culprits are bipartisan, though you’d never guess
that from the blather that passes for political discourse
these days. The state-wreck originated in 1933, when Franklin
D. Roosevelt opted for fiat money (currency not fundamentally
backed by gold), economic nationalism and capitalist cartels
in agriculture and industry.
Under the exigencies of World War II (which did far more
to end the Depression than the New Deal did), the state
got hugely bloated, but remarkably, the bloat was put into
brief remission during a midcentury golden era of sound
money and fiscal rectitude with Dwight D. Eisenhower in
the White House and William McChesney Martin Jr. at the
Fed.
Then came Lyndon B. Johnson’s “guns and butter”
excesses, which were intensified over one perfidious weekend
at Camp David, Md., in 1971, when Richard M. Nixon essentially
defaulted on the nation’s debt obligations by finally
ending the convertibility of gold to the dollar. That one
act — arguably a sin graver than Watergate —
meant the end of national financial discipline and the start
of a four-decade spree during which we have lived high on
the hog, running a cumulative $8 trillion current-account
deficit. In effect, America underwent an internal leveraged
buyout, raising our ratio of total debt (public and private)
to economic output to about 3.6 from its historic level
of about 1.6. Hence the $30 trillion in excess debt (more
than half the total debt, $56 trillion) that hangs over
the American economy today.
This explosion of borrowing was the stepchild of the floating-money
contraption deposited in the Nixon White House by Milton
Friedman, the supposed hero of free-market economics who
in fact sowed the seed for a never-ending expansion of the
money supply. The Fed, which celebrates its centenary this
year, fueled a roaring inflation in goods and commodities
during the 1970s that was brought under control only by
the iron resolve of Paul A. Volcker, its chairman from 1979
to 1987.
Under his successor, the lapsed hero Alan Greenspan, the
Fed dropped Friedman’s penurious rules for monetary
expansion, keeping interest rates too low for too long and
flooding Wall Street with freshly minted cash. What became
known as the “Greenspan put” — the implicit
assumption that the Fed would step in if asset prices dropped,
as they did after the 1987 stock-market crash — was
reinforced by the Fed’s unforgivable 1998 bailout
of the hedge fund Long-Term Capital Management.
That Mr. Greenspan’s loose monetary policies didn’t
set off inflation was only because domestic prices for goods
and labor were crushed by the huge flow of imports from
the factories of Asia. By offshoring America’s tradable-goods
sector, the Fed kept the Consumer Price Index contained,
but also permitted the excess liquidity to foster a roaring
inflation in financial assets. Mr. Greenspan’s pandering
incited the greatest equity boom in history, with the stock
market rising fivefold between the 1987 crash and the 2000
dot-com bust.
Soon Americans stopped saving and consumed everything they
earned and all they could borrow. The Asians, burned by
their own 1997 financial crisis, were happy to oblige us.
They — China and Japan above all — accumulated
huge dollar reserves, transforming their central banks into
a string of monetary roach motels where sovereign debt goes
in but never comes out. We’ve been living on borrowed
time — and spending Asians’ borrowed dimes.
This dynamic reinforced the Reaganite shibboleth that “deficits
don’t matter” and the fact that nearly $5 trillion
of the nation’s $12 trillion in “publicly held”
debt is actually sequestered in the vaults of central banks.
The destruction of fiscal rectitude under Ronald Reagan
— one reason I resigned as his budget chief in 1985
— was the greatest of his many dramatic acts. It created
a template for the Republicans’ utter abandonment
of the balanced-budget policies of Calvin Coolidge and allowed
George W. Bush to dive into the deep end, bankrupting the
nation through two misbegotten and unfinanced wars, a giant
expansion of Medicare and a tax-cutting spree for the wealthy
that turned K Street lobbyists into the de facto office
of national tax policy. In effect, the G.O.P. embraced Keynesianism
— for the wealthy.
The explosion of the housing market, abetted by phony credit
ratings, securitization shenanigans and willful malpractice
by mortgage lenders, originators and brokers, has been well
documented. Less known is the balance-sheet explosion among
the top 10 Wall Street banks during the eight years ending
in 2008. Though their tiny sliver of equity capital hardly
grew, their dependence on unstable “hot money”
soared as the regulatory harness the Glass-Steagall Act
had wisely imposed during the Depression was totally dismantled.
Within weeks of the Lehman Brothers bankruptcy in September
2008, Washington, with Wall Street’s gun to its head,
propped up the remnants of this financial mess in a panic-stricken
melee of bailouts and money-printing that is the single
most shameful chapter in American financial history.
There was never a remote threat of a Great Depression 2.0
or of a financial nuclear winter, contrary to the dire warnings
of Ben S. Bernanke, the Fed chairman since 2006. The Great
Fear — manifested by the stock market plunge when
the House voted down the TARP bailout before caving and
passing it — was purely another Wall Street concoction.
Had President Bush and his Goldman Sachs adviser (a k a
Treasury Secretary) Henry M. Paulson Jr. stood firm, the
crisis would have burned out on its own and meted out to
speculators the losses they so richly deserved. The Main
Street banking system was never in serious jeopardy, ATMs
were not going dark and the money market industry was not
imploding.
Instead, the White House, Congress and the Fed, under Mr.
Bush and then President Obama, made a series of desperate,
reckless maneuvers that were not only unnecessary but ruinous.
The auto bailouts, for example, simply shifted jobs around
— particularly to the aging, electorally vital Rust
Belt — rather than saving them. The “green energy”
component of Mr. Obama’s stimulus was mainly a nearly
$1 billion giveaway to crony capitalists, like the venture
capitalist John Doerr and the self-proclaimed outer-space
visionary Elon Musk, to make new toys for the affluent.
Less than 5 percent of the $800 billion Obama stimulus
went to the truly needy for food stamps, earned-income tax
credits and other forms of poverty relief. The preponderant
share ended up in money dumps to state and local governments,
pork-barrel infrastructure projects, business tax loopholes
and indiscriminate middle-class tax cuts. The Democratic
Keynesians, as intellectually bankrupt as their Republican
counterparts (though less hypocritical), had no solution
beyond handing out borrowed money to consumers, hoping they
would buy a lawn mower, a flat-screen TV or, at least, dinner
at Red Lobster.
But even Mr. Obama’s hopelessly glib policies could
not match the audacity of the Fed, which dropped interest
rates to zero and then digitally printed new money at the
astounding rate of $600 million per hour. Fast-money speculators
have been “purchasing” giant piles of Treasury
debt and mortgage-backed securities, almost entirely by
using short-term overnight money borrowed at essentially
zero cost, thanks to the Fed. Uncle Ben has lined their
pockets.
If and when the Fed — which now promises to get unemployment
below 6.5 percent as long as inflation doesn’t exceed
2.5 percent — even hints at shrinking its balance
sheet, it will elicit a tidal wave of sell orders, because
even a modest drop in bond prices would destroy the arbitrageurs’
profits. Notwithstanding Mr. Bernanke’s assurances
about eventually, gradually making a smooth exit, the Fed
is domiciled in a monetary prison of its own making.
While the Fed fiddles, Congress burns. Self-titled fiscal
hawks like Paul D. Ryan, the chairman of the House Budget
Committee, are terrified of telling the truth: that the
10-year deficit is actually $15 trillion to $20 trillion,
far larger than the Congressional Budget Office’s
estimate of $7 trillion. Its latest forecast, which imagines
16.4 million new jobs in the next decade, compared with
only 2.5 million in the last 10 years, is only one of the
more extreme examples of Washington’s delusions.
Even a supposedly “bold” measure — linking
the cost-of-living adjustment for Social Security payments
to a different kind of inflation index — would save
just $200 billion over a decade, amounting to hardly 1 percent
of the problem. Mr. Ryan’s latest budget shamelessly
gives Social Security and Medicare a 10-year pass, notwithstanding
that a fair portion of their nearly $19 trillion cost over
that decade would go to the affluent elderly. At the same
time, his proposal for draconian 30 percent cuts over a
decade on the $7 trillion safety net — Medicaid, food
stamps and the earned-income tax credit — is another
front in the G.O.P.’s war against the 99 percent.
Without any changes, over the next decade or so, the gross
federal debt, now nearly $17 trillion, will hurtle toward
$30 trillion and soar to 150 percent of gross domestic product
from around 105 percent today. Since our constitutional
stasis rules out any prospect of a “grand bargain,”
the nation’s fiscal collapse will play out incrementally,
like a Greek/Cypriot tragedy, in carefully choreographed
crises over debt ceilings, continuing resolutions and temporary
budgetary patches.
The future is bleak. The greatest construction boom in
recorded history — China’s money dump on infrastructure
over the last 15 years — is slowing. Brazil, India,
Russia, Turkey, South Africa and all the other growing middle-income
nations cannot make up for the shortfall in demand. The
American machinery of monetary and fiscal stimulus has reached
its limits. Japan is sinking into old-age bankruptcy and
Europe into welfare-state senescence. The new rulers enthroned
in Beijing last year know that after two decades of wild
lending, speculation and building, even they will face a
day of reckoning, too.
THE state-wreck ahead is a far cry from the “Great
Moderation” proclaimed in 2004 by Mr. Bernanke, who
predicted that prosperity would be everlasting because the
Fed had tamed the business cycle and, as late as March 2007,
testified that the impact of the subprime meltdown “seems
likely to be contained.” Instead of moderation, what’s
at hand is a Great Deformation, arising from a rogue central
bank that has abetted the Wall Street casino, crucified
savers on a cross of zero interest rates and fueled a global
commodity bubble that erodes Main Street living standards
through rising food and energy prices — a form of
inflation that the Fed fecklessly disregards in calculating
inflation.
These policies have brought America to an end-stage metastasis.
The way out would be so radical it can’t happen. It
would necessitate a sweeping divorce of the state and the
market economy. It would require a renunciation of crony
capitalism and its first cousin: Keynesian economics in
all its forms. The state would need to get out of the business
of imperial hubris, economic uplift and social insurance
and shift its focus to managing and financing an effective,
affordable, means-tested safety net.
All this would require drastic deflation of the realm of
politics and the abolition of incumbency itself, because
the machinery of the state and the machinery of re-election
have become conterminous. Prying them apart would entail
sweeping constitutional surgery: amendments to give the
president and members of Congress a single six-year term,
with no re-election; providing 100 percent public financing
for candidates; strictly limiting the duration of campaigns
(say, to eight weeks); and prohibiting, for life, lobbying
by anyone who has been on a legislative or executive payroll.
It would also require overturning Citizens United and mandating
that Congress pass a balanced budget, or face an automatic
sequester of spending.
It would also require purging the corrosive financialization
that has turned the economy into a giant casino since the
1970s. This would mean putting the great Wall Street banks
out in the cold to compete as at-risk free enterprises,
without access to cheap Fed loans or deposit insurance.
Banks would be able to take deposits and make commercial
loans, but be banned from trading, underwriting and money
management in all its forms.
It would require, finally, benching the Fed’s central
planners, and restoring the central bank’s original
mission: to provide liquidity in times of crisis but never
to buy government debt or try to micromanage the economy.
Getting the Fed out of the financial markets is the only
way to put free markets and genuine wealth creation back
into capitalism.
That, of course, will never happen because there are trillions
of dollars of assets, from Shanghai skyscrapers to Fortune
1000 stocks to the latest housing market “recovery,”
artificially propped up by the Fed’s interest-rate
repression. The United States is broke — fiscally,
morally, intellectually — and the Fed has incited
a global currency war (Japan just signed up, the Brazilians
and Chinese are angry, and the German-dominated euro zone
is crumbling) that will soon overwhelm it. When the latest
bubble pops, there will be nothing to stop the collapse.
If this sounds like advice to get out of the markets and
hide out in cash, it is.
David A. Stockman is a former Republican congressman
from Michigan, President Ronald Reagan’s budget director
from 1981 to 1985 and the author, most recently, of “The
Great Deformation: The Corruption of Capitalism in America.”