There is a strange foreboding in the world economy. Newspapers report downward revisions in growth estimates for all the major developed countries: the United States, Germany, France, Japan. No one, it seems, is being left out. Indeed, these estimates are roughly half a percentage point lower than those issued only last autumn.
At the same time, newspapers report in bleak terms almost exclusively about banks and financial markets, with little attention to the real economy, as if today’s crisis were purely financial and bound to remain so. Indeed, some experts, too, believe that the crisis can be resolved simply by refinancing banks, and that the impact on the real economy will be relatively limited.
This is clearly the belief of the European Central Bank, which is pumping hundreds of billions of euros into the banking system to ensure liquidity. But, unlike the US Federal Reserve, it has not lowered key interest rates, which is what matters most to firms and households.
Other experts, of course, believe that the real economy is in jeopardy, and that the threat of a recession is genuine. But, unfortunately, hardly any experts can speak with confidence about both finance and macroeconomics.
So what is a non-expert to think?
It is helpful to review where the world economy now stands. The largest number of defaults on sub-prime mortgages will occur this spring. So the full impact of the crisis remains ahead of us: 1.3 million American homeowners have already defaulted on their mortgages. In 2008, another three million will join them.
Moreover, the size of the bad debt threatening banks remains unknown, and could amount to several hundred billion dollars. The total sum of assets now under threat is even more important, because mortgages have been mixed up with other kinds of securities, and these “packages have been sold throughout the world. A US subsidiary of Deutsche Bank, for example, has been barred by an American court from foreclosing on a house because it could not demonstrate ownership.
The global economy is overrun with such poisoned packages. As a result, banks distrust one another and have mostly stopped lending to each other, which jeopardizes economic activity by severely reducing the availability of credit to businesses. As a result, recession seems certain.
The quantity of liquidity in the world economy is surprising, and monetary expansion by central banks does not explain it completely. For more than two decades, shareholders in all the developed countries, unorganized and passive from 1945 until 1975-1980, have recast themselves in the form of pension funds, investment funds, and hedge funds. Now they are significant and active players (as majorities or strong minorities) in all the big companies of the developed world.
To boost the value of their shares, these shareholders backed the drive to reduce the global volume of the payroll and the number of workers that companies employ. Indeed, in the last 25 years, the share of direct and indirect wages as a percentage of GDP has fallen by 8% to 11% in all the countries involved. As a result, precarious employment and job insecurity, which hardly existed between 1940 and 1970, now affect more than 15% of the developed world’s population.
The average real wage has been flat in the US for 20 years, with 1% of the population capturing all of the gains brought about by a 50% growth in GDP during this period. This “liberated a lot of liquidity for financial activities, gambling, and speculation. In France alone over the past 20 years, roughly 2.5 trillion euros have poured into the financial world, which suggests a total of 30-60 trillion dollars for the world economy as a whole.
This has been accompanied by a growing immorality of the system.
Remuneration of company bosses now reaches 300 to 500 times the average salary of rank-and-file employees, up from 40 to one for the century and a half before 1980. Throughout the world, the number of companies facing legal problems for various types of fraud is growing dramatically.
The worst, sadly, is yet to come. Because most people’s incomes are stagnant and being eroded as their mortgage payments rise, consumption is bound to fall, yielding lower growth and employment. A recession will only increase job precariousness and unemployment, creating social tensions that will not, of course, help to ease the financial crisis. All the ingredients seem to be in place for a long and powerful perfect storm of economic decline and social unrest.
We in the developed world live in democracies. Every four or five years, the legitimacy of the system needs to be confirmed by elections. But is the system being so delegitimized by the economic and social turmoil that elections will no longer be viable?
Of course, capitalism remains more compatible with personal freedom than communism ever was. But it is now blindingly obvious that capitalism is too unstable to survive without strong public regulation. That is why, after years of being neglected as a viable option, it is time for the social-democratic project to return to the political fore.
Michel Rocard, former Prime Minister of France and leader of the Socialist Party, is a member of the European Parliament. This commentary is published by DAILY NEWS EGYPT in collaboration with Project Syndicate (www.project-syndicate.org).
