Capitalism arises from the human drive to improve one's situation, eliminate poverty, choose a good mate, trade things you're good at for things someone else is better at, organize groups for protection and efficiency, all that good stuff.
Capitalism happens spontaneously even in socialist states like Cuba, whether dedicated Marxist leaders such as Fidel Castro like it or not. Having no use for his economics or his approach to human rights, one nevertheless fervently wishes we had people running things here with a dedication to capitalism/democracy equal to his to socialism. "SOCIALISM OU MORTE" is on letters six feet high on the sides of barns in Cuba. And we watch with no little empathy as China walks a tightrope, attempting to continue to pretend it is a Marxist state while carefully nurturing some of the main principles of capitalism.
Yet it has become fashionable to condemn capitalism and free markets for the economic meltdown, highlighted as it was by enormous profits made by some firms and particularly by some individuals. Usually ignored is the curious irony by which the most vocal of the protesters are among the most adroit users of the technology, sociology, free markets, and open societies that capitalist democracy makes possible.
So if capitalism/globalization is not to blame for our recurring cycles of boom-bust, what is?
It is irresistible for an electronics engineer to recognize the economy as a huge, quite unstable amplifier that can degenerate into an destructively screeching oscillator. This is not a new thought (Forrester, Industrial Dynamics, 1968) but has been forgotten in our hubristic self-assurance that big busts can’t happen any more.
An electronic oscillator requires three things, listed below with their analogs:
- Amplification (fractional reserve banking, leverages and financial gearing of all kinds)
- Feedback (our marvelous communications systems that enable us (and our computer-programmed investment tactics) to get and react instantly to signals from the market)
- Correct time phasing (the feedback arrives at the exact millisecond that reinforces whichever way the market is moving): if up (irrational exuberance), to saturation (can't/won't go higher); if down, to cutoff (no more current available, i.e. liquidity lost).
Stability in such an amplifier is restored in several ways. One is by negative feedback, #2 above, in which some of the output is fed back to the input exactly out of time phase, thus interfering with one of the three requirements for oscillation. Such actions in the economy are said to be counter-cyclical. The Dutch do this by requiring, in some situations, bonds to be sold matching loans that have been made. This neutralizes the inflationary effect of loans backed by too-small capital reserves, i.e. “money created by the stroke of a pen” as their critics say.
Shoals of financiers have learned how to pull these levers to their own benefit - e.g. Goldman Sachs, who bet upon both outcomes of the financial collapse in a can't-lose manoeuvre that raked in billions.
So what to do? Here are a few suggestions for useful policy moves.
First: the cure is not more regulation, as in Basel III. Bankers setting banking rules is a glaring conflict of interest, as they attempt to suck and blow (protect the system while ensuring their own profitability). Retire the Sons of Basel II (the SoBs) to productive work like gardening; set interest rates free; let reserve ratios be 100%; control what we can (e.g. leverage and reserve ratios); and make it more difficult to devise intricate financial instruments that move risk from their inventors to investors while also concealing what they are doing. Example: the Chinese know something we don’t; they deliberately delay foreign direct investment flows, making it impossible for day-traders (the ultimate NVA, no-value-added, manipulators) to do their instantaneous-trading thing.
Finance once supported the creation of real wealth
We must re-educate any economists who still believe in the rational, fully-informed consumer who makes dispassionate buying decisions. Have them note that Keynsian economics might work if we were to try it, which we haven't; governments proceed happily with the spending part but haven't mastered the saving part.
We have lost track of what finance is for. Finance once supported the creation of real wealth (e.g. money loaned to build a factory) but now finance supports finance that supports finance ..... We should recognize that there are only three sources of real wealth: extraction, manufacturing, and agriculture. The rest of us just shuffle paper. Money is not wealth. The face value of all financial instruments open in the world has been estimated at $600 trillion, about 10 times the entire GDP of the entire world. Clearly, probably 90% of the $600T is fictitious wealth. When confidence is lost too many people try to cash in, at which time some security’s fictitious nature becomes glaringly obvious; the markets crash and we have an Economy Run, the Bank Run's big brother. Much of this would have been avoided if our financial activities had dealt more with real goods (“things you can drop on your toe”, in The Economist’s delightfully apt phrase), less with dots on a magnetic chip. No one wants to return to the 1920s; yet there is something to be said for a promissory note we once saw stating that, “Security for this loan of $50 is in the form of three cows branded bar-S, in the clear ownership of the borrower, Mr. John Smith of Rimby, Alta.“
All of these problems with the financial oscillator are being busily papered over. Much of the papering is by politicians who don’t know any better, watched warily by cunning elements in the financial industries who do know better - a lot better. Our problems with the capitalist economy are not problems with capitalism but with capitalists, i.e. human nature. We must find more ways to apply negative feedback to control the oscillator and to protect ourselves from ourselves.
Frank Gue is a retired professional electronics engineer living in Burlington, Ontario.
He is widely published on economics, factory management, aerodynamics, electronics, and politics.
He has been a political and education activist for many years, and has served as President, Education Chair, and Policy Chair in both Provincial and Federal parties. He was the founding president of the Halton Taxpayers Coalition.
Frank can be reached at: frank.gue@cogeco.ca
