Financial masters of the universe versus sovereign governments
A former advisor to President, Bill Clinton, James Carville once remarked that if reincarnation exists then he would like to come back not as the president, or the pope, nor even a baseball megastar but as the bond market because of their power to intimidate everyone. This prescient remark underscores the asymmetry in the distribution of power between sovereign governments and global financial markets, which goes hand-in-hand with the ascent of deregulated global finance.
Whilst a number on the left have sought to provide a coherent alternative to the wave of austerity that engulfs many of the world’s economies, the development of a meaningful alternative can only be formed upon a bedrock of financial stability, with empowered sovereign governments reasserting their control over a global financial system that has become answerable to no master. This will require a marked shift from the current international financial architecture to one that permits governments to pursue policies conducive to high and sustainable rates of economic growth, rather than being beholden to the whims of financial markets, and their opaque concept of ‘credibility’.
The events of the last decade or so have engrained into the popular psyche phrases that were previously the domain of a small niche of experts. So ‘sovereign debt crisis’, ‘systemic risk’, and ‘financial contagion’ have all entered the mainstream political lexicon. These issues, however, are nothing new, and financial instability has been a persistent feature of the neo-liberal economic era, with each decade punctuated by episodes of instability that were terrifying harbingers of the 2008 meltdown. 
Just ask the plethora of East Asian countries who saw their economies taken to the brink in the late 1990s, the so-called ‘Tequila Crisis’ that spread like wildfire through Latin America during the same decade, or the French economy during the mid-1980s when the progressive agenda of socialist President Francois Mitterrand met its death under relentless speculative attacks. History is awash with examples of international financial markets steamrollering sovereign governments who were rendered powerless to avert the financial instability, economic disruption, and human misery that resulted from such episodes.
The negative by-product of this ever-present threat from financial markets has been to cultivate a deep risk-aversion in the conduct of economic policy, whereby ‘less is more’ in terms of government intervention. This hands-off approach, whilst very much to the taste of those on the political right, has served to undermine growth, hamper productivity, and worsen inequality. If the left is to succeed in its efforts for wholesale reform in this area, as opposed to merely tinkering at the margins, three conditions must convincingly be met.
Firstly, it must repudiate from first principles the notion that unrestrained capital flows are economically desirable. Secondly, it must present a clearly worked alternative framework to replace the liberalised status quo. And, finally, progressives must be able to articulate a compelling political vision as to why sweeping reform is necessary, and the ways it will empower governments to foster an economy that generates widespread prosperity.
Secession of control to financial markets has been presented by free-market fundamentalists as something of a virtue, in which the omniscient ‘invisible hand’ constrains governments from pursing supposedly reckless agendas, and instead forces them towards ‘sound’ and pro-market policies. Indeed, the overriding sentiment of this ‘market discipline’ argument is predicated on the idea that financial markets prevent governments from pursuing a raft of misguided policies, thus averting the rip-roaring inflation that would ostensibly result from such interventions. So, could it be that the powerful interests comprising financial markets are vastly misunderstood creatures, whose benevolent intentions are in fact to save the masses from the dangers of some inflationary bogeyman?
Sadly, the true explanation is far simpler, insomuch as those fortunate enough to be well endowed with financial investments have a clear incentive to favour prohibitively low rates of inflation, since it allows their financial cash flows to command greater purchasing power in the future. Thus, the real reason for the markets’ inflation alarmism is that it reflects their own underlying distributional preferences, which they then seek to impose on society at large via the omnipresent threat of a disorderly sell-off of financial assets.
The reality, of course, is that the economic environment of recent years throughout many of the advanced economies has been one in which inflation was too low, rather than too high. In conditions where a significant number of economic agents are suffering from a debt-overhang, a moderate amount of inflation is very much desirable in allowing individuals and businesses to meet their repayment obligations and avoid costly defaults. That is to say, some well-designed expansionary fiscal policies would have been of great help in mitigating the aftermath of the Global Financial Crisis. Yet governments found themselves repeatedly undermined by the potential ramifications from financial markets. To see the results of this, one need only look at the significant number of Eurozone countries who have been trapped amidst a deadly vortex of low inflation and weak economic growth, which has resulted in the predictable outcome of worsening their debt position.
What is called for is a fundamental readjustment in the balance of power between national governments and international financial markets. The challenge is to cultivate a financial system that is not only responsive to the needs of the real economy, but is also sufficiently restrained so as to avoid the diminution of policy autonomy that has proved so damaging over recent decades. Indeed, we can draw pertinent insights from the immediate decades following the Second World War, a period when international capital movements were a mere fraction of what they are now, and yet it proved to be a time of unrivalled prosperity with regard to GDP growth, unemployment, and productivity performance. A key facet of the success during that period was the marked degree of international cooperation that characterised financial regulation, thereby, reducing the potential for a damaging game of regulatory arbitrage.
A vital first step will be for countries and international organisations alike to undertake a mature and level-headed analysis regarding the control of international capital flows, and to allow national governments to impose restrictions on external capital movements. There will need to be effective controls on short-term capital inflows, which might be achieved through some form of tax-based obstacles to the cross-border flow of funds. Restricting financial flows in this way is not protectionism, indeed, it is quite distinct from the trade in goods and services, and is instituted not to gain a competitive advantage over foreign firms, but rather for reasons of financial stability.
A particularly important element of the revised global financial architecture should centre on what was known as the ‘Article VI debate’ at the founding of the International Monetary Fund (IMF) in 1944, and something the economist, John Maynard Keynes, pushed hard for. This rule would have required both the IMF and its members to assist in the enforcement of any member state’s controls against capital flight, constituting a united front in the face of unacceptable torrents financial volatility. Unfortunately, the juggernauts of Wall Street cast their malign spell on the levers of power in the US, and Keynes’ enlightened plan was watered down substantially. Nonetheless, it offers a powerful and compelling vision of how countries, with the appropriate degree of international coordination, can reassert their economic sovereignty over a financial system that increasingly poses far more by way of threats than it does in terms of opportunities.
Ultimately, it is the ill-conceived notion of ‘market discipline’ that underpins the shaky intellectual edifice of liberalised financial markets, and the subsequent emasculation of sovereign governments. Its toxic side-effects are to condemn economies to paltry rates of growth, diminish the chances of finding gainful employment, and allow those in debt to sink further into a spiral of financial decline.
Reform in this area is too important to be left to an arcane cabal of technocrats amidst the towers of Basel. Indeed, if the left succeeds in driving wholesale and much needed change, it will reap the far-reaching benefits for years to come. Failure to alter the status quo will see its future efforts to forge fairer and more prosperous societies brought to ruin on the altar of deregulated global finance, just as the graveyard of financial history bears testament to. This is an existential challenge that the left can no longer afford to ignore.
Joshua Banerjee is studying for a Diploma in Finance at the University of London and is a member of the Post-Keynesian Economics Study Group (https://www.postkeynesian.net/about/). He graduated from the London School of Economics in 2015 with a BSc in Economic History.