Picture: EPA – woman hold a US dollar. The world financial system appears to suffer periodic chaos because of the excessive power of the US dollar, the Fed and US Treasury, the writer says.
By Patrick Bond
In his March 9 podcast of a weekly online show called Reading Marx’s Capital, City University of New York professor David Harvey predicted tumultuous times ahead.
He was especially concerned about whether financial managers can prevent an “almighty crash, as we in effect have a global Ponzi scheme”. The term “Ponzi” indicates a financial arrangement where the debtor is so far “under water” that new loans are needed simply to pay back the interest on the existing debt.
Harvey – who (by way of disclosure) was my PhD supervisor – was referring to the build-up of “fictitious capital”, that is, paper representations such as stock market shares, securities or other certificates signifying investor willingness to receive the profits, dividends and interest that come from underlying “real” capital.
It is now evident, Harvey went on, that there were growing distinctions in “qualities of indebtedness, in terms of money and state debt varying a great deal”. At a time of rising interest rates, the rise in financial capital “is not terribly benign” because of “a huge gap between the fictitious capital which exists and the real capital which exists”.
Picture an obese man’s financial pot belly being propped up on his ever more spindly productive legs. The situation is now so unstable, Harvey continued, that “I would speculate myself that there is likely to be a very serious crash in the financial system particularly because the fictitious capital is actually built now into a global Ponzi scheme”.
Within 24 hours, Harvey was proven correct. As rising US interest rates have revealed major strains in financial markets by turning investments in US Treasury Bills into losses, the Silicon Valley Bank’s sudden collapse became the second worst such failure in US history. It was followed quickly by New York’s Signature Bank. Credit Suisse collapsed the following week, and was urgently purchased by Union Bank of Switzerland for $3.2 billion, a 96 percent discount on its 2007 peak market capitalisation of $90bn.
As Harvey predicted on March 9, any such “Ponzi scheme invariably becomes undone, except in this case the Ponzi scheme is so big that you can’t afford to undo it. So what you find is that the central banks are in a sense half aware of the kinds of difficulties that I’m pointing to. But the difficulties are such that they can only answer to a financial difficulty by issuing more credit money that is increasing the liquidity within the global system”.
There are several ways to “increase liquidity” that bankers insist on in times of meltdown. One is the sort of bailout that the US Treasury and Federal Reserve Board (or “Fed”) rapidly organised for major depositors at the failing banks, while – appropriately – the institutions’ owners and bondholders were left to carry vast losses. (When I worked as a US Fed analyst in 1984, Continental Illinois was a trend-setting bank crash because of its vastly overexposed energy and real estate portfolio, at a time deregulation had begun in earnest. But at least back then, due to Chicago neighbourhood activist pressure, the Fed imposed bailout conditions requiring the bank to return to much more community reinvestment.)
Usually, there is a $250,000 state guarantee given to depositors in any US bank, to prevent runs on banks. But especially at Silicon Valley Bank (with its very small consumer finance component), its corporate and small-business customers would not have met their March payroll bills, so the Fed gave them all a much bigger deposit guarantee, which prevented a full-fledged upside-down-pyramid-type collapse.
There are exceptions to this rule of bailing out only depositors: “systematically important banks” (SIBs), namely those that are considered “too big to fail,” so they will always receive both depositor and owner+bondholder bailouts.
The main US SIBs are JP Morgan Chase, Bank of America, Citigroup and Goldman Sachs. Big corporate depositors recognise this bias and so they spent last week running away from the slightly smaller “regional banks,” in search of the artificially-safe SIBs. US corporations moved massive amounts of liquid funds to the SIBs, causing more chaos for the smaller financiers, and ensuring both that the US financial system will remain chaotic, and that the biggest banks become even more powerful.
Another central bank bailout strategy is to lower interest rates, and a third is pushing money into the banking sector to buy state bonds back, known as Quantitative Easing. These were the techniques used in 2008-13 and 2020-21 as the Global Financial Crisis and Covid-19 lockdowns threatened widespread insolvency. But Fed chair Jerome Powell last week feared ongoing inflation so he raised interest rates –suggesting that South African interest rates will rise now too (at next week’s Monetary Policy Committee meeting), especially the latest inflation data confirm the orthodox view.
Regrettably, SA Reserve Bank governor Lesetja Kganyago is as orthodox as any central banker in the world today, as recognised when the International Monetary Fund named him to lead its main policy committee in 2018. So we can expect that even though our inflationary pressures are mostly imported, and though interest rate hikes have caused extreme pain to ordinary borrowers, Kganyago will raise them again this week.
As for Quantitative Easing, the result of that form of money-printing was to bubble up the fictitious capital invested in real estate and stock market shares, especially, which fuelled extreme rises in inequality. So when the Fed gradually halted (“tapered”) that technique in 2022, and raised interest rates, the effect was devastating to even the world’s most powerful tycoons. To illustrate, from March 2020 until November 2021, the wealth of the world’s 10 richest men soared from $700bn to $1.5 trillion.
At that stage, the rich list was led by Pretoria-born, Johannesburg-raised tech entrepreneur Elon Musk, whose main firms were Tesla and SpaceX. By late 2021, his wealth peaked at nearly $300bn, having exploded by more than 1000 percent during Covid-19. But matters changed radically last year, as most of the world’s dozen wealthiest portfolios collapsed, with the top 500 individuals and families down $1.4 trillion. Musk halved to $146bn after gambling $44bn on buying his social media hobby, Twitter. Tesla’s share value crashed by 65 percent last year given renewed investor mistrust in his time management, maturity and common sense, though there was a small share-value bounce-back in January that has since faded.
Overall though, the world financial system appears to suffer periodic chaos, and aside from Harvey’s diagnosis of fictitious capital bubbling out of any relationship to real capital, another reason is certainly the excessive power of the US dollar, the Fed and US Treasury. The system needs an overhaul far more thorough-going than in 1944 when the dollar-gold peg was set in the US town of Bretton Woods (based partly on the US-South African alliance of gold-holders versus that era’s debtors, including Britain).
The dilemma is that when leaders of the Brazil-Russia-India-China-South Africa bloc (BRICS) meet in Durban in late August, expectations will far outstrip reality. The problem of BRICS hype about challenging world finance has become evident since 2014, given its non-existent Contingent Reserve Arrangement, alternative credit rating agency and local-currency networks. And the BRICS New Development Bank ended up as a World Bank mini-me, yet even more corrupt.
As the summit approaches, much more will be said about how the BRICS nations plus up to 20 new members – including Saudi Arabia, home of the petro-dollar – might break away from US$-centric world financial chaos. But to do so properly will require grappling with not only malevolent financial power in Washington, but also the deeper roots of fictitious capital’s profound crises.
Patrick Bond is Professor of Sociology at the University of Johannesburg and author/editor of several books on political ecology and political economy