Capitalism Is Swell Anyway … Or Is It?
By Staff News & Analysis - July 09, 2012

Capitalism is in crisis but it's still our best bet for prosperity … The last couple of weeks have not been good for capitalism. The Libor scandal has come on top of yet more disputes about executive pay … There is a view that the failings of the current system are all the regulators' fault. Take regulatory restrictions away and capitalism will work in its usual way to promote the best interests of society. What nonsense. Of course the regulation of banking has been very poor – but mainly because the regulators were taken in by the ethos of "don't interfere; the market knows best". Capitalism must exist in a world of laws, conventions, and institutional structures. Finance must be constrained by these to operate in the interests of society. Otherwise, it has a way of gobbling up huge resources … In practice, what happens in companies is not some private preserve where normal rules do not apply but rather is fully part of society, and it is from society that businesses derive sustenance. Accordingly, if in a public company executive rewards consistently exceed any reasonable notion of contribution there is a legitimate public interest. The condoning of such things corrodes public confidence and erodes the feeling that we belong to a common society. For excessive rewards are effectively stolen from the rest of us – as employees, customers or pensioners. If this feeling is allowed to go too far, we will indeed cease to belong to a common society – with dire consequences for us all. – UK Telegraph

Dominant Social Theme: Capitalism is great so long as it's regulated.

Free-Market Analysis: Some days the UK Telegraph just provides us with an enormous amount of fodder and this is one of those days. Let's take a look at this article excerpted above and see where it departs from reality – as we see it anyway …

It is by Roger Bootle, a UK Telegraph columnist, and one might describe it as a well-reasoned analysis of real-time economics. It is interesting to read because Bootle is one of those Oxford-trained economists who is not averse to an occasional criticism of the system.

But who is Bootle? Wikipedia tells us that Bootle – who studied at Merton and Nuffield Colleges, Oxford – "worked as an economist for Capel-Cure Myers and Lloyds Merchant Bank. From 1989 until 1998, he was an economist at Midland Bank/HSBC, rising to the position of Group Chief Economist of the HSBC group. During the John Major government in the 1990s, he was appointed to the UK treasury's panel of economic forecasters under Kenneth Clarke."

So this is a man who has practical experience in the City, is trained as an economist and has political experience as well. This has provided him with a broad frame of reference, and yet it is one that may be seen as peculiarly blinkered.

We might suggest this is the reason that solutions to the current economic crisis will never come from those invested directly in the system and who have worked at its top levels such as Bootle. For instance, he writes, "Of course the regulation of banking has been very poor – but mainly because the regulators were taken in by the ethos of 'don't interfere; the market knows best.'"

How any person can write that regulators don't interfere in the financial marketplace is beyond us. Let us count just some of the ways.

  • First, regulations DEFINE the marketplace. Prior to the Great Depression, there was no distinction between a public and private marketplace. The idea of "going public" – a fundamental part of the current scene – is entirely a regulatory convention.
  • Second, everyone who works in the Western financial industry has to get a license from regulators and often a background check. Many of these licenses now feature industry "exams" – so again, regulations are setting the tone for the entire industry when it comes to the knowledge base that people act on.
  • Third, regulatory capture is in full effect by now. It takes enormous amounts of capital to set up a firm and pursue business within the context of an adequate bankroll. This means that regulation is winnowing out start-ups and smaller firms and leaving only the larger ones in place. Regulation doesn't make the marketplace "safer" – only more consolidated.

But the biggest reason of all that regulation is not merely interference in the marketplace but actually MAKES the marketplace is because of central banking. It is central banking – sanctioned by government – that creates first booms and then terrible busts.

To discuss regulation without discussing central banking is like discussing investing without defining what a stock or bond is. The discussion may take place anyway but it will be essentially meaningless. Bootle adds the following to his article:

What has gone wrong largely concerns corporate culture. I well remember when I first moved to the City as a young, wet-behind-the-ears, former Oxford don being baffled by the concept. Why on earth would firms have "a culture" – and why should it matter? Surely we can all now see the answer.

But getting the right culture is greatly helped by having the right industry structure. This is why banking behemoths fulfilling umpteen functions is so wrong. The businesses of client relationship banking and trading are utterly different. They need different cultures.

The separation between commercial and investment banking proposed by the Vickers Commission goes some way towards achieving this – but not far enough. I suspect that Vickers will prove to be only a staging post. What we need is the complete separation of institutions, thereby enshrining different cultures, in other words, the resurrection of the separation which was enforced in America by the Glass Steagall Act.

Bootle, in our humble view, is entirely wrongheaded when it comes to this analysis. What Bootle and others need to do is confront the ramifications of central banking that cause the enormous euphorias that Bootle is blaming on commercial banking and on the City and Wall Street themselves.

The problem is not regulation as Bootle defines it. It is not the rapacious greed of the investment industry. This is nonsense – a kind of dominant social theme of sorts. Shoemakers can be greedy, too, but they do not have the engine of monetary creation at their disposal. That's why Bootle is writing about banking and not shoes.

It is the ability to print endless amounts of money from nothing that causes these problems. The problem is not the culture of finance but the ability of a few impossibly wealthy families to create as much as necessary to continue the Ponzi scheme that supports modern Western society.

After Thoughts

Until observers like Bootle can bring themselves to confront the monetary price-fixing that lies at the heart of modern finance, their prescriptions shall inevitably fail as they have for the past century – and their analyses cannot be seen as even partially complete.

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