Bye, bye American pie as capitalism comes a cropper

OPINION: Unbridled capitalism outlived its communist rival for exactly 17 years, writes Tony Kinsella

OPINION:Unbridled capitalism outlived its communist rival for exactly 17 years, writes Tony Kinsella

POLITICAL HISTORIES, with their clear before-and-after dates, are so much neater to write about than their rather more tortuous economic cousins. On December 21st, 1991, the representatives of all member republics of the Union of Soviet Socialist Republics, with the exception of Georgia, signed the Alma-Ata Protocol, dismembering the USSR. Just five days later, on St Stephen's Day 1991, the Supreme Soviet dissolved both itself and the country it had once ruled. One of the two great political and economic theories of the 20th century, Soviet communism, ceased to exist.

The year 2008 will enter our history books as the year when the rival 20th century theory of unbridled capitalism passed away. As this demise is an economic one, we lack an equivalent before-and-after date.

Perhaps historians with a sense of symmetry will select December 26th, 2008? Such a selection would allow us to write that unbridled capitalism outlived its communist rival for exactly 17 years.

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Over recent weeks the Republican administration of George Bush, which can reasonably be described as the national government that most zealously believed in the mantra of unfettered capitalism, has carried out the greatest wave of nationalisations our modern world has seen.

One major source of economic inspiration for the Bush Republicans has been (the past tense is now obligatory) Grover Glenn Norquist, leader of Americans for Tax Reform and a board member of both the National Rifle Association and the American Conservative Union.

Norquist once famously remarked: "I don't want to abolish government. I simply want to reduce it to the size where I can drag it into the bathroom and drown it in the bathtub." Mr Norquist would now need a bathtub the size of the Pacific Ocean were he to realise his ambition.

On Sunday, September 7th last, the US treasury secretary, Henry Paulson, announced that his government was effectively nationalising the mortgage giants Freddie Mac and Fannie Mae.

The US Federal Housing Finance Agency took them into "conservatorship" - nationalisation being an unacceptable term - to underwrite their ballooning debts of around $800 billion.

The two companies were already semi-public, and between them underwrote over $5 trillion of the US's $12 trillion mortgages.

The market was about to devour them, and in the process destroy itself. The market had failed and only the state could save it.

Heresy metamorphosed in the blink of an eye into orthodoxy.

One week later, unfettered capitalist orthodoxy briefly reappeared when Paulson allowed the 158-year-old Lehman Brothers investment bank to collapse.

Paul Krugman of Princeton University and the New York Times suggested Paulson felt "that playing Russian roulette with the US financial system was his best option".

The odds in Russian roulette are five-to-one in your favour as only one of the revolver's six chambers actually has a bullet in it. The odds against Henry Paulson's last free market hurrah turned out to be considerably shorter than that.

On the following Wednesday the penultimate nail was hammered into the coffin of financial orthodoxy when the Federal Reserve lashed out $80 billion to take over the troubled insurance giant American International Group, and fired its management. The Fed then asked the treasury to borrow more money to help it handle the strain of shovelling over $220 billion into sandbags to shore up the crumbling levees of the US financial system.

Two realities, one potentially lethal, the other painful, made this borrowing possible.

The potentially lethal one is the drying up of credit in the US economy. On September 18th, the US interbank rate, or what banks charge other banks for borrowing stood at 3.25 per cent.

The return on short term treasury bonds was 0.05 per cent, but lenders preferred the security of government bonds to the risks of lending to their fellow bankers.

The painful reality is that the rest of the world has effectively said it is no longer prepared to lend money to US companies and individuals. It is still prepared to lend money to the US government, but that is a willingness which will be increasingly conditional on Washington abandoning its unfettered free market zeal.

The rest of the world's profits and savings have funded US consumption and its housing boom during a period when Americans had simply stopped saving. That party is now effectively over as Lehman Brothers discovered when they went looking for foreign buyers.

There is now a growing consensus in Washington that the federal government needs to remove all the toxic financial instruments from the market by purchasing everything unsaleable at a knockdown price - the final nail in financial orthodoxy's coffin.

Blind faith in the ability of markets to regulate themselves, and in the infallibility of complex mathematical formulae to dilute and spread the risk element of investments has brought the US financial system to its knees.

There is more than an element of delicious irony in the fact that the trumpet of doom first sounded from Paris when BNP Parisbas announced in August 2007 that its highly qualified staff could not put a price on the US asset-backed bonds it held.

The US, with a lot of help from the rest of the planet, will eventually sort out its financial mess and its inherent inventiveness will relaunch its economy. It will, however, be a version of the mixed economic model the rest of us have long come to accept as a reasonable compromise.

Economic commentator Nouriel Roubini of New York University, also known as Dr Doom, sums it up: "Zealots of any religion are always pests that cause havoc with their inflexible fanaticism - but they usually don't run the biggest economy in the world."

This time they did and they ran it into the ground.