Sunday, November 23, 2008

Capitalism’s winter

Dutch central bank president Wellink (left) , prime minister Balkenende and finance minister Bos (right) announce the nationalisation of Fortis on Friday, 3 October 2008.   Photo Roel Rozenburg

Sunday has become the day for governments to make their big announcements as they try to stabilize the world’s financial markets.

In the Netherlands, the Dutch government announced its plan to nationalize and merge Fortis and ABN, injecting 16.8 billion euros to stabilize it’s operations. (The country’s GDP is 400 billion euros, so this is a big commitment).

Aside, It’s been a good opportunity to learn who’s who in the Dutch government: did you correctly identify Dutch central bank president Wellink (left) , prime minister Balkenende (center) and finance minister Bos (right)?

In the United States, Secretary Paulson announced support for auto, credit card, and student loans in addition to mortgages.  It’s not surprising: all sorts of debt were pumped, packaged, and sold off as collateralized securities.

In both the Dutch and American actions, the rationale for government intervention is to reduce the systemic risk and to restore confidence and liquidity by guaranteeing operations of institutions, banks, insurers, and others who have become ‘too big to fail’.

DSC03257 That phrase, ‘too big to fail’, stuck with me.  The Wall Street Journal interprets it to mean that an “institution's failure must be avoided because of its potential impact on the economy or financial system”.  Business and consumers can’t buy without access to cash and credit; goods can’t be exchanged without transfers and insurance; product can’t be transported without vehicles, energy, and infrastructure.  Over time, all of these critical pieces have become dominated by a few large companies, now deemed ‘too big to fail’.

I agree that the capacity to deliver these goods and services is critical to the economy, but are the individual companies?

At the turn of the century, the Robber Barons controlled railroads, energy, and commodities.  Their trusts were broken up to encourage a competitive environment free from monopoly.  The nation’s telecommunications infrastructure was run by a single company, AT&T, until it was broken up. In all cases, new competitors entered, products and services multiplied, and prices dropped. Although arguably ‘too big to fail’, the abolition of the trusts didn’t cripple the economy. Instead, economic need pulled new, smaller, innovative firms into the market, creating a vigorous and competitive industry in place of self-protective and static institutions.

We reward “growth” as a singular goal of companies, and that philosophy creates large businesses within industries.  To a point, it promotes standardization, economy of scale, and organizational efficiency that benefits society at large.  But it also creates institutions with ossification, hubris, and entitlement, whether it’s the automaker’s sense that they should be bailed out to protect jobs rather than to create product, or the insurance company assertions that private jets and lavish parties are necessary costs to doing business.

Economies and industries necessarily evolve.  As technologists recognize in the Innovator’s Dilemma, better new companies should, and will, supersede failing old ones. I would rather see governments use this period of upheaval to encourage new entrants than to prop up the old ones; to open up the markets rather than to consolidate them.  The social and economic need for the industries is very real, but I think that we can do without some of the companies that claim to be essential by right of size or longevity.

DSC03266 Capitalism’s winter should be followed by a thousand new flowers blooming in the spring, restoring vigor and creativity to the world economy.


Textual Healer said...

I am watching with some interest as Labour put up Income Tax to 45% for the highest 1% of earners (this after eleven years of economic growth during which labour made no meaningful attempt at redistribution). And at the same time a new "Bretton Woods" is being discussed. It seems that some very positive things are coming out of this crisis.

Dave Hampton said...

Great comment, thanks! I hadn't heard that the government was making the marginal rate more progressive...I think it's a good idea. I would expect the US to follow suit.

I'm not in favor of raising rates just to be punative: there are a ot of successful people who work hard for their surplus.

And, as an aside, I would rather see business tax loopholes closed rather than business taxes raised: protecting reinvestment and shareholder returns is going to be important to the economic recovery.

Returning to the premise, 20 years experience with letting upper-income workers keep a greater share of their earnings has NOT shown the promised benefits, whether it is trickle down income and benefits to workers, re-investment in new businesses, or an increase in consumer spending among people that upper brackets.

I say this because, respectively, income spreads have widened rather than floating everyone to higher incomes, seed investment has come from governments and private equity rather than angels and trusts, and upper-bracket investors have put money into real estate and yield-generating hedge funds rather than spend their wealth proportionately.

When the reasons for letting the wealthy keep a greater percentage of their income (passive income, especially) are not valid, then I'm okay with raising taxes on the excess.

I'm waiting to see what the new 'Bretton Woods' proposals look like...