R E S E A RC H O N M O N E Y A N D F I N A N C E · Crisis and Financial Expropriation Costas Lapavitsas ... School of Oriental and African Studies 15 February 2009 Research on Money

R E S E A R C H O N M O N E Y A N D F I N A N C E

Discussion Paper no 1

Financialised Capitalism:Crisis and Financial Expropriation

Costas LapavitsasDepartment of Economics, School of Oriental and African Studies

15 February 2009

Research on Money and Finance Discussion Papers

RMF invites discussion papers that may be in political economy, heterodox economics, and economic sociology. We welcome theoretical and empirical analysis without preference for particular topics. Our aim is to accumulate a body of work that provides insight into the development of contemporary capitalism. We also welcome literature reviews and critical analyses of mainstream economics provided they have a bearing on economic and social development.

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Costas Lapavitsas, Address: Department of Economics, Soas, Thornhaugh Street, Russell Square, London, WC1H 0XG, Britain. Email: [email protected]. Earlier drafts of this paper were presented at a workshop at Kadir Has University, March 2008, as well as at a conference at SOAS, in May 2008. Thanks for comments are due primarily to members of Research in Money and Finance at SOAS. The author is also grateful to several others, but far too many to mention individually.

Research on Money and Finance is a network of political economists that have a track record in researching money and finance. It aims to generate analytical work on the development of the monetary and the financial system in recent years. A further aim is to produce synthetic work on the transformation of the capitalist economy, the rise of financialisation and the resulting intensification of crises. RMF carries research on both developed and developing countries and welcomes contributions that draw on all currents of political economy.

Research on Money and FinanceDepartment of Economics, SOAS

Thornhaugh Street, Russell SquareLondon, WC1H 0XG

Britain

www.soas.ac.uk/rmf

CostasLapavitsas‐FinancialisedCapitalism:CrisisandFinancialExpropriation2

http://www.soas.ac.uk/rmf

http://www.soas.ac.uk/rmf

Abstract

Thecurrentcrisisisanoutcomeofthefinancialisationofcontemporarycapitalism. Itarose in the USAbecause ofthe enormous expansionofmortgagelending, includingto the poorestlayersoftheworkingclass.It became general because of the trading of debt by financialinstitutions. These phenomenaare integral to financialisation.Duringthelast threedecadeslargeenterpriseshaveturnedtoopenmarketstoobtainfinance,forcingbanksto seek alternative sourcesofprofit.Oneavenue has been provision of financial services to individual workers.This trendhas beenfacilitated bythe retreat of public provisionfromhousing,pensions, education,andso on.Afurtheravenuehasbeentoadoptinvestmentbankingpracticesinopenfinancialmarkets.The extraction of financial profits directly out of personal incomeconstitutesfinancialexpropriation.Combinedwithinvestmentbanking,it has catalysed the current gigantic crisis. More broadly,financialisationhas sustained theemergence ofnew layersofrentiers,defined primarily through theirrelation to the financial system ratherthanownership of loanable capital. Finally, financialisationhasposedimportantquestionsregardingfinancecapitalandimperialism.


1.Introduction:Severaldimensionsoffinancialisation

The storm that has gradually engulfed theworld economy sinceAugust 2007 is afully‐fledged crisis of financialised capitalism. The crisis did not spring directly out of amalaiseofproduction, though it has already causedmajordisruptionofaccumulation. Itwas precipitated by housing debts among the poorest US workers, an unprecedentedoccurrence in the history of capitalism. Thus, the crisis is directly related to thefinancialisationofpersonal income,mostlyexpenditureonhousingbutalso oneducation,health,pensionsandinsurance.

Thecrisisbecameglobalbecauseofthetransformationofbanksandotherfinancialinstitutionsin thecourseoffinancialisation.Commercialbankshavebecomemoredistantfrom industrial and commercial capital, while adopting investment banking and turningtowardindividualincomeassourceofprofits.Thecombinationofinvestmentbankingandfinancialisedpersonal incomeresulted in an enormous bubble in theUSA and elsewhereduring2001‐7,eventuallyleadingtodisaster.

Duringthebubble itbecameclearthat thesourcesoffinancialprofithavechangedsignificantlyasmaturecapitalisteconomiesbecamefinancialised.Extractingfinancialprofitdirectlyoutofthepersonalincomeofworkersandothershasacquiredgreatersignificance.Thismay be called financial expropriation. Such profits have beenmatched by financialearningsthrough investment banking,mostly fees, commissions, andproprietary trading.Toanextentthesealsooriginateinpersonalincome,particularlyfromthehandlingofmasssavings.

Profits from financial expropriationandinvestment bankingcorrespondto changesin social structure. Theyhaveaccrued to managersoffinanceand industry, aswell as tofunctionaries of finance, such as lawyers, accountants, and technical analysts. This trendappears as the return of the rentier, but modern rentiers draw income as much frompositionrelativeto thefinancial systemas fromcouponclipping. Extraordinarypaymentstake theform of remuneration forputative services, includingsalaries, bonuses,andstockoptions.Contemporaryrentiersaretheproductoffinancialisation,notitsdrivingforce. Further,theinstitutionsofeconomicpolicymakinghavechangedsignificantlyinthecourseoffinancialisation.Centralbankshavebecomepre‐eminent,buttressedbylegalandpractical independence. Theyhavecast abenigneyeonspeculativefinancial excess,whilemobilising social resources to rescue financiers from crisis. But the limits to theirpowerhave also become apparent in the course of the crisis, requiring the intervention of thecentralstate. Financialisation has also deepened the complexity of imperialism. Developingcountries have been forced to hold vast international reserves that have resulted in netlendingbythepoorto therich.Privatecapitalhasflowninto developingcountriesearninghigh returns, but was more than matched by reverse flows to accumulate reserves bydeveloping countries, which earn little. These anarchical capital flows have benefitedprimarily theUSAasissueroftheinternationalmeansofpayment, though theyhavealsocontributedtotheUSbubbleof2001‐7.

Financialisation,finally,has allowed theethics,moralityandmindsetoffinancetopenetratesocialandindividual life.Theconceptof‘risk’ ‐oftennothingmorethanabanalformalisationofthefinancier’spractices‐hasbecomeprominentinpublicdiscourse.Wavesof greed have been released by the transformation of housing and pensions into‘investments’, dragging individuals into financialbubbles. To be sure, therehasalso beenresistanceandsearchforsocialalternatives.Butfinancehassetthetermsacrosstheworld. This paper is a step toward analysis of financialisation and its attendant crises.Guidance has been sought in the work of Marx and the classical Marxist debates onimperialismat theturnofthetwentiethcentury.Thepaperstartswithabriefdiscussionofthe US financial bubble and its burst in section 2. It is shown that this was anCostasLapavitsas‐FinancialisedCapitalism:CrisisandFinancialExpropriation4

unprecedentedevent,causedbythefinancialisationofpersonal incomecombinedwiththerise of investment banking. To obtain a better understanding of the roots of the crisis,therefore, section 3 briefly considers the historical and institutional background offinancialisation.

Onthisbasis, section 4 analyses theprocessthroughwhichextraction of financialprofit has led to global economic turmoil. It is shown that interaction between financialexpropriationandinvestmentbankinghasexacerbatedthetensionofliquidityandsolvencyfor commercial banks. Several of the largest have effectively become bankrupt, thuscripplingreal accumulation.ThefocusofanalysisisontheUSAastheoriginal siteofthecrisis, but broader structural trends are demonstrated across key capitalist economies.Section5ofthepaperthenturnstotheimplicationsoffinancialisationforclasscompositionbydiscussing contemporary rentiers. Section 6concludes byconsidering the relevanceoftheMarxistconceptoffinancecapitaltothecurrentperiod.

2.Briefanatomyofacrisisoffinancialisation

2.1Housing,securitisationandtheswellingofthebubble

The roots of the current crisis are to be found in the financialisation ofworkers’housing in theUSA.Mortgage lending increasedrapidly from 2001 to 2003, subsequentlydecliningbutremainingatahighleveluntil2006:

Table1.USMortgageLending,2001‐6,$bn

Year Originations Originations

Securitisation

Rate (%)

Subprime Subprime

Securitised

Subprime

Securitisation

Rate (%)

ARM

2001 2215 60.7 160 96 60.0 3552002 2885 63.0 200 122 61.0 6792003 3945 67.5 310 203 65.5 10342004 2920 62.6 530 401 79.8 14642005 3120 67.7 625 508 81.3 14902006 2980 67.6 600 483 80.5 1340Source:InsideMortgageFinance;MortgageOriginationIndicators,Mortgage

OriginationsbyProduct,SecuritizationRatesforHomeMortgages.

Theexplosionofmortgagelending in2001‐3methousingdemandfromhouseholdson significant income. When this demand was sated, subprime mortgage lending roserapidly (particularly during 2004‐6) amounting to $1.75tr, or 19.5% of originations.Borrowers were from the poorer sections of theUSworking class, often black or Latinowomen.1 TheywerefrequentlyofferedAdjustableRateMortgages(ARM),typicallywithaninitially low rateof interest thatwas subsequently adjusted upwards. TotalARM cameto$4.3trduring2004‐6,or47.6%oforiginations.


1SeeDymski2009.

Thus during the bubble financialisation of personal income reached the poorestsectionsoftheUSworkingclass.Atthetimethisappearedasa‘democratisation’offinance,the reversal of ‘red‐lining’ of thepoorbybanks in previousdecades. But solving housingproblemsthroughprivatefinanceeventuallybecameadisaster, puttingmillionsat riskofhomelessness. Thesubprimemarket,despiteitsgrowth,isnotlargeenoughdirectlytothreatenUS,andevenlessglobal,finance.Butithashadamassiveimpactbecauseoftheparallelgrowthof investment banking, particularly through mortgage securitisation: $1.4tr of subprimemortgagesweresecuritisedduring2004‐2006,or79.3%ofthetotal.Thiswasconsiderablyhigher than the average securitisation rate of63.9% forthewholeoforiginations. Simplyput, securitisation involved parcelling mortgages into small amounts, placing them intolarger composites, and selling the lots as new securities. Particles of subprime debt,therefore,becameembeddedinsecuritiesheldbyfinancialinstitutionsacrosstheworld. On the back of the housing boom there was intensification of other forms offinancialisationofpersonal income.Ashousepricesrose,homeownerswereencouragedtore‐mortgageandusetheproceedsforotherpurposes.Thisso‐called‘equityextraction’wasakeyfeatureofthebubble:

Table2.USMortgageRefinance,2000‐7

Year 2000 2001 2002 2003 2004 2005 2006 2007Originations ($tr) 1.1 2.2 2.9 3.8 2.8 3.0 2.7 2.3Refinance (%) 20.5 57.2 61.6 66.4 52.8 52.0 48.6 49.8

Source:MortgageBankersAssociation;MortgageOriginationEstimates,updatedMarch24,2008.

A parallel result was collapse of personal savings, which approached zero aspercentage of disposable income (table3). The declineinpersonal savings is a long‐termaspect of financialisation, reflecting the increasing involvement of individuals in thefinancial system and the concomitant rise in individual debts. From 9‐10%of disposableincomeinthe1970sandearly1980s,personalsavingshavedeclinedsteadilythroughouttheperiod.ButthedropintheUSAto0.4%isremarkable,andhistoricallyunprecedentedforamaturecapitalistcountry.

Table3.PersonalSavings,USA,2000‐7

Year 2000 2001 2002 2003 2004 2005 2006 2007Savings ($bn) 168.5 132.3 184.7 174.9 181.7 44.6 38.8 42.7Savings as

% of Disposable

Income

2.3 1.8 2.4 2.1 2.1 0.5 0.4 0.4

Source:FederalReserveBank,FlowofFunds,various.

As savings collapsed, the balance of trade deficit of the USA, already very large,expandedtoanenormous$762bnin2006.SuchwerethefoundationsoftheapparentperiodofgrowthandprosperityintheUSAduring2001‐7.CostasLapavitsas‐FinancialisedCapitalism:CrisisandFinancialExpropriation6

Table4.BalanceofTradeDeficit,USA,2000‐7,$bn

Year 2000 2001 2002 2003 2004 2005 2006 2007379.5 367.0 424.4 499.4 615.4 714.6 762.0 708.6

Source:FederalReserveBank,FlowofFunds,various.

2.2.Creditfeedingthebubble

Monetarypolicycontributeddirectlytothebubbleanditsburst.Onthewakeofthenewtechnologybubbleof1999‐2000,theFederalReservecutinterestratesrapidlyandkeptthemlow.Thegradualriseofinterestratesafter2004eventuallyputanendtothebubble:

Table5.EffectiveFederalFundsRate,2000‐7

Year 2000 2001 2002 2003 2004 2005 2006 20076.24 3.88 1.67 1.13 1.35 3.22 4.97 5.02

Source:FederalReserveBank,InterestRates,various.

InadditiontocheapcreditfromtheFed,severaldevelopedanddevelopingcountriesfound themselveswith largetrade surpluses (excessofdomesticsavingsoverinvestment)aroundthemiddleofthe2000s.ThecounterpartwastradedeficitsandashortfallofsavingsrelativetoinvestmentintheUSAandtheUK(andlesssoinFrance,Italy,andelsewhere):

Table6.ExcessofSavingsoverInvestmentas%ofGDP

Year 2002 2003 2004 2005 2006 2007USA -4.2 -5.1 -5.5 -6.0 -5.9 -5.1UK -1.6 -1.3 -1.6 -2.5 -3.9 -4.9Germany 2.0 1.9 4.3 4.6 5.0 5.6Japan 2.9 3.2 3.7 3.6 3.9 4.8Developing

Asia

2.4 2.8 2.6 4.1 5.9 6.8

Commonwealth

of Independent

Countries (CIS)

6.4 6.3 8.3 8.6 7.4 4.5

Middle East 4.8 8.3 11.8 19.7 20.9 19.8Africa -1.7 -0.4 0.1 1.8 2.8 0.3

Source:IMF,WorldEconomicOutlook2008

Todefendexchangeratesandasprotectionagainstsuddenreversalsofcapitalflows,thesurplusholderssoughtreservesofdollarsasquasi‐worldmoney.Thestrategyofreserveaccumulation was also imposed on developing countries by international organisations,


aboveall, the InternationalMonetaryFund.The result hasbeenaccumulationof foreignexchangereservesevenbyimpoverishedAfrica.2

Table7.ReserveAccumulation,SelectedDevelopingCountriesandAreas,$bn

Year 2000 2001 2002 2003 2004 2005 2006 2007Total

of

which:

800.9 895.8 1072.6 1395.3 1848.3 2339.3 3095.5 4283.4

China 168.9 216.3 292.0 409.0 615.5 822.5 1069.5 1531.4Russia 24.8 33.1 44.6 73.8 121.5 156.5 296.2 445.3India 38.4 46.4 68.2 99.5 127.2 132.5 171.3 256.8M i d d l e

East

146.1 157.9 163.9 198.3 246.7 351.6 477.2 638.1

S u b -

Saharan

Africa

35.0 35.5 36.0 39.9 62.3 83.0 115.9 144.9

Source:IMF,WorldEconomicOutlook2008

FormingreservesmeantthatcentralbanksboughtUSstatesecurities.Hencealargepart of the surpluses flowed to theUSA, despite relatively lowUS interest rates and thepossibilityofcapital losses, ifthedollarwasto fall.Developing countries thusbecamenetsuppliersofcapitaltotheUSA,keepingloanablecapitalabundantduring2005‐6,exactlyastheFedstartedtotightencredit.

2.3Burstofthebubbleandshortageofliquidity

The crisis emerged after the exhaustion of theUS housing boom in 2006. Housepricesfellby5‐10%in2007,thefallacceleratingthroughout 2008.Inthefourthquarterof2007,2.1millionpeoplewerebehindwiththeirpayments.Theepicentreofthiscollapsewassubprime ARM:7% of totalmortgages but 42%of all foreclosures. Prime (betterquality)ARMwerealso vulnerable: 15% of total mortgagesbut20%of foreclosures.In thesecondquarterof2008foreclosureratesrosetounprecedentedlevels:6.63%onsubprimeand1.82%onprimeARM.3 Thus, thehousingmarket crisisstartedin subprimemortgagesbut thenspreadto theprimesector.Theplainmechanicsareclear: risinginterest ratesandfallinghousingpricesforcedARMholderstodefaultinincreasingnumbers.

Themostimportantfeatureoftheburstanalyticallywasthemutualreinforcementoftheproblemsofliquidityandsolvencyforbanks,whichmadethecrisisprogressivelyworse.Thiswasadirectresultofthefinancialisationofpersonalincomecombinedwiththespreadof investment banking. The tension between liquidity and solvency became severe forcommercial banks due to widespread adoption of investment banking practices.Independentinvestmentbanks,meanwhile,succumbedenmassetothepressures.


2SeePainceira2009.Rodrik2006hasputforthawidelyusedestimateofthesocialcostofreserves.

3MortgageBankersAssociation;NationalDelinquencySurvey,variousissues.

Financial turmoil beganas a liquidity shortage in the inter‐bankmoneymarket inAugust 2007 and gradually becamea solvency crisis.4 ThereasonwasthatUSandotherbanks held large volumes of mortgage‐backed securities, or were obliged to supportfinancial institutions that held them. Asmortgage failures rose, these securities becameprogressivelyunsaleable,thusalsoputtingbanksolvencyindoubt.Bankspreferredtohoardliquidfundsinsteadoflendingthemtoothers.

Liquidity shortages can be captured as the divergence between the three monthLIBOR(interbank lending) and the three‐month Overnight Indexed Swap rate (risk‐freeratekeytotradingfinancialderivativesamongbanks).Thesearenormallyveryclosetoeachother,butafterAugust2007theydivergedsignificantly,theLIBORexceedingOISby1%andeven more in late 2007and early 2008.5 But thiswas as nothing compared to the sizereachedbythespreadinSeptember/October2008.

The burst of the bubble thus led to an apparent paradox, much exercising theeconomic weather experts of the press: markets were awash with capital but short ofliquidity. Yet, this phenomenon is neitherparadoxical nornew. In financial crisesmoneybecomesparamount: thecapitalist economymightberepletewithvalue,butonlyvalue inthe form ofmoneywill do, andthat is typicallynot forthcoming dueto hoarding.6 Thisconditionprevailedintheglobalfinancialsystemin2007‐8.Loanablecapitalwasabundantbut there was shortage of liquid means to settle obligations ‐ i.e. money ‐ because ofhoardingbyfinancialinstitutions.

2.4Banksolvencyandstateintervention

Central banks have led state efforts to confront the persistent liquidity shortage.ExtraordinarymethodshavebeenusedbytheFedandothercentralbanks,includingOpenMarket Operations, discount window lending, Term Auction Facilities, direct lending toinvestment banks, swapping mortgage‐backed for public securities, and purchasingcommercial paperfrom industrial andcommercial corporations.Weak collateralhasbeentakenforsomeofthislending,thusshiftingcreditriskontocentralbanks.Atthesametime,centralbankinterestrateswereprogressivelycutthroughout 2008,approaching0%intheUSA.Lowerratesoperateasasubsidytobanksbyloweringthecostoffunds.

But liquidity injections alone were incapable of dealing with the aggravatedmalfunctioning offinancialised incomeand investment banking. Thecrisiswent throughtwo peaks in 2008 resulting from the tension between liquidity and solvency,while alsoshowingthelimitsofstateintervention.ThefirstwasthecollapseofBearSternsinMarch,agiant investment bank that held $12.1tr of notional value in outstanding derivativesinstrumentsinAugust2007.7Thebankfounditimpossibletoborrowinthemoneymarket,whileitsmortgage‐backedassetsmadeitinsolvent.TheFedtogetherwiththeUSTreasurymanageditscollapsebyforcingatakeoverbyJPMorgan,whichreceivedaloanof$29bnforthepurpose. Crucially, bondholdersandother creditorsto thebank receivedtheirmoneyback.

BearStern’s bankruptcytypified thefailureofcombining investment banking withfinancialisedpersonal income.TheUSstatecontrolledtheshockwavesofitscollapse,butfailedtoappreciatethedeeperfailureofthemechanismsoffinancialisation.Compoundingtheprocesswasthe steadydeclineof stockmarketsafterDecember2007, assharebuyers


4ForanalysisofthemoneymarketfromthestandpointofMarxistpoliticaleconomy,seeLapavitsas2003,ch.4,and2007).

5Mishkin2008.

6Marx1976,ch.1.

7BearSterns2007,p.55.

eventuallyrealisedwhatwasafoot.TheDowJonesstoodat roughly 11300 inAugust2008,downfrom 13300 inDecember2007.As theirsharescollapsed,banks found it increasinglydifficulttoobtainprivatecapitalto supportlossesinmortgage‐backedandothersecurities.Thecombinationofliquidityandsolvencyproblemsprovedfatalforbanks.

The second peak occurred in September‐October 2008, a period that has alreadyfounditsplaceintheannalsofcapitalistbanking.RisingdefaultsintheUShousingmarketled to the near collapse of Fannie Mae and FreddieMac. These government‐sponsoredagencies partake of roughlyhalf theannual transactionsofmortgage‐backedsecurities intheUSA,andtypicallybuyonlyprimequality.Butduringthebubbletheyengagedinriskierinvestment banking, including subprime mortgages, thus forcing the state to nationalisethem.Barelyafewdayslater,LehmanBrothers,anothergiantUSinvestment bank,founditselfinasimilarpositiontoBearSterns.ThistimetheTreasury,withtheconnivanceoftheFed,allowedthestrickenbanktogobankrupt,bothshareholdersandcreditorslosingtheirmoney.

Thiswasablunderofcolossalproportionsbecauseitremovedallremainingvestigesoftrustamongbanks.Moneymarketparticipantsoperateunderthetacitpremisethatwhatholds for one, holds for all. Since Bear Sterns’ creditors received theirmoney back butLehmanBrothers’didnot, thegroundsforinterbank lendingvanished.Worse,thecollapseof Lehman confirmed beyond doubt that combining investment banking with thefinancialisationofpersonal incomehadfailedirretrievably.Lehmanmighthavebeen veryaggressive,butithaddonenothingqualitativelydifferentfromotherbanks.

The aftermath of the Lehman shock was not surprising, but its magnitude washistoric.Liquiditydisappearedcompletely,banksharescollapsedandgenuinepanicspreadacross financial markets. The divergence between LIBOR and OIS even approached 4%,making it impossiblefor banks to do anybusiness.The remainingUS investment banks,MerrillLynch,GoldmanSachs,andMorganStanley,ceasedtoexistinanindependentform.ForcedbankrescuesandtakeoversoccurredintheUSAandacrossEurope.Foronceitwasnotanexaggerationtosaythattheglobalfinancialsystempeeredintotheabyss.

TheLehmanshock showed that stateintervention infinanceisneitheromnipotentnor omniscient. The state can make gigantic errors spurred by wrong theory as well asvested interests. Facedwithdisaster, theUSstate rapidlyalteredits stanceandeffectivelyguaranteedbanksagainst furtherfailure.Thisinvolvedtheadvanceofpublicfundsto dealwiththeproblemofbank solvency.Bytheendof2008theUSAhadadoptedtheTroubledAssetReliefProgram(TARP),committing$700bn,whilesimilarplanshadbeenadoptedintheUKandelsewhere.

By then, however, it hadbecome clearthat amajorrecessionwasunfoldingacrosstheworld. Contraction ofcredit by banksandmarkets forcedenterprises to cut back onoutput and employment. Consumption declined as worried and over‐indebted workersrearranged their expenditure. Exportmarkets collapsed, particularly for automobiles andconsumer electronics. Developing countries also suffered as capital flows becameproblematic, necessitating emergency borrowing. A crisis that had began as a financialshockhadmutatedintoaglobalrecession.

To recap, afully‐fledgedcrisisoffinancialisationcommencedin2007.Unlikemajorcapitalist crises of the past, it arose due to the financialisation of personal income,particularlymortgagelendingtoUSworkers,eventhepoorest.Thiswascombinedwiththespread of investment banking practices among financial institutions, above all,securitisation. The crisis paralysed the financial system and progressively disrupted realaccumulation. Central bank intervention has been pervasive but not decisive, forcinggovernmentstointervenetorescuebanksandamelioratetherecession.

Togobeyondtheproximatecausesofthiscrisis,therefore,itisnecessarytoconsiderthetransformationofthefinancialsysteminthecontextofcapitalistdevelopment,thusalsoCostasLapavitsas‐FinancialisedCapitalism:CrisisandFinancialExpropriation10

specifying the content of financialisation. To engage in this analysis Marxist politicaleconomyneedstodevelopitsconceptsandbroadenitsapproach.Theprecedingdiscussionhasshownthatthecrisisdidnotemergebecauseofover‐accumulationofcapital,thoughitis already forcing capital restructuring on a large scale. Rather, this is an unusual crisisrelatedtoworkers’income,borrowingandconsumptionaswellastothetransformationoffinance in recent decades. In short, it isa crisisoffinancial expropriation andassociatedfinancial mechanisms. The subsequent sections analyse therelevant trends andeconomicrelations.

3.Financialisationinhistoricalperspective

Financialisation has resulted from the epochal changes that followed the first oilshockof1973‐4. Thatcrisissignalledtheendofthelongpost‐warboomandusheredinalongdownturnpunctuatedbyrepeatedeconomiccrises.8Duringthisperiodtherehasbeena technological revolution in information processing and telecommunications, with apronouncedeffectonthesphereofcirculation.9Furthermore,duringthesameperiodtherehas been profound institutional and political change, above all, deregulation of labourmarketsandthefinancialsystem,whileneo‐liberalismhasreplacedtheKeynesianismofthelongboom.10

Three aspects of theseprocesses are particularly relevant to financialisation. First,productivitygrowthhasbeenproblematicfromthemiddleofthe1970stothemiddleofthe1990s,mostsignificantlyintheUSA.11 Newtechnologydidnotgeneratesignificantgainsinproductivity growth for two decades. After 1995 there were significant gains in themicroprocessor industry and eventually a broad basis was created for faster productivitygrowthacrosstheUSeconomy.12Productivitygrowthpickedupevenintheservicessector,including in financial trading (though not in banking).13 During the bubble of 2001‐7,however, productivitygrowth appears to have sloweddown again.Moreover, othermajorcapitalist economies, includingtheUK,havenotregisteredsimilargains. Therelationshipbetweennewtechnologyandproductivitygrowth,therefore,remainsunclear.

Second,theprocess ofwork hasbeen transformed,partlydue to technological andregulatorychange,andpartlyduetoboutsofunemploymentatkeyjuncturesoftheperiod.Casual labourandentryofwomeninto thelabourforcehavehadastrongimpactonworkpractices.14 It is likely that therehasbeena rebalancingofpaidandunpaid labour,whileinformation technologyhas encouraged the invasion of private time by work, as well as


8There isextensive politicaleconomy literature onthisissue. Themost recent, andwidely discussed, contributionisbyBrenner 1998,and2002,whoarguesthat thedownturnisdue tointensifiedglobalcompetitionkeepingprofitability low.ForacritiqueseeFine,Lapavitsas,andMilonakis1999.

9Thepoliticaleconomy literatureonthese issuesisextensive,includingthedebateonflexiblespecialisationaswellasthedebateonpost‐FordismassociatedwiththeFrenchRegulationSchool.

10Tworecentprominentpoliticaleconomycontributionsthatdiscusstheriseofneo‐liberalismareDumenilandLevy2004andGlyn2006.

11Themeasurementofproductivityisaconceptualminefield,particularlyinservices.Inthisarticlemainstreammeasurementsareusedasreferencepointsfordiscussion.

12Therehasbeenintensedebateonthisissuebutaconsensushasemergedalongtheselines,seeOlinerandSichel2000,and2002,JorgensonandStiroh2000,Gordon1999,and2004.

13Mainstreamliteratureonthisislessextensive.SeeTriplettandBosworth2001,and2003.

14Thereissizeablemainstreamliteratureontherelationshipbetweennewtechnologyandwork.See,veryselectively,BrynjolfssonandHitt2000,and2003,andAutor,LevyandMurnane2003.

growthinpieceworkandputtingoutpractices.InMarxistterms,it isprobablethatlabourhas been intensified, and unpaid labour stretched. From the extensive literature on jobsatisfaction, for instance, it transpires that work intensification associated with newtechnology is akey reason fordissatisfactionwith work indeveloped countries, togetherwithlossofdiscretionoverworkchoices.15

Third, global production and trade have come to be dominated by multinationalenterprises created through successive waves of mergers and acquisitions. The bulk ofForeignDirectInvestment(FDI)takesplaceamongdevelopedcountries,buttherewerealsosubstantialflowstodevelopingcountriessincethemid‐1990s,risingsignificantlyafter2000.16 Competition has intensified globally, but without formal cartels or zones of exclusivetradingand investment rights. The rise of themultinationals hasbeen accompanied by ashiftofthemostdynamicsitesofproductiongrowthawayfromtheWest‐aboveall,towardChina.TherehaveevenappearedsizeableSouth‐SouthflowsofFDI.17Tobesure,Germanyand Japan continue to earn large manufacturing surpluses. Nonetheless, in the West,typicallyintheUSAandtheUK,therehasbeenageneralshiftofcapitalistactivitytowardfinancialandotherservices.

Financialisation should be understood against this background of hesitantproductivitygrowth,alteredworkpractices,andglobal shiftsinproductivecapacity.Sincethelate1970s,realaccumulationhaswitnessedmediocreandprecariousgrowth,butfinancehasgrownextraordinarilyintermsofemployment,profits,sizeofinstitutionsandmarkets.Therehasbeenderegulation,technologicalandinstitutionalchange,innovation,andglobalexpansion.Financenowpenetrateseveryaspectofsocietyindevelopedcountrieswhileitspresence hasgrown strongly in the developing world. While real accumulation hasbeenperforming indifferently, thecapitalist classhas foundnewsources ofprofitsthrough therevampedmechanismsoffinance.Perhapsthemostsignificantdevelopmentinthisrespecthasbeentheriseoffinancialexpropriationofworkersandothers.

Theeconomicaspectsofthiscomplextransformationareexaminedbelow,focusingprimarilyoncommercialbanks,thepivotofthecreditsystem.Analysisproceedswithintheframework ofMarxist political economy, deriving fundamentally from thework ofMarx.Nonetheless,theoutputofsubsequentMarxistpoliticaleconomy,especiallyHilferding,isatleastasimportant,andinsomerespectssuperior.

4. Economic aspects of financialisation: Financial expropriation and investmentbanking

4.1Commercialbanksturntotheindividual:Theriseoffinancialexpropriation

Commercial banks have been greatly transformed in the course offinancialisation.Thedrivingforceofthistransformationhasbeendecliningrelianceoflargecorporationsonbankfinance.Corporateenterprisesindevelopedcountrieshavebeenfinancinginvestment(onanetbasis)primarilythroughretainedprofits.18Asfarasexternalfinanceisconcerned,theyhave relied increasinglyondirectborrowing inopenmarkets.ConsiderthefollowingfortheUSA,JapanandGermany:


15Green2004a,and2004b;GreenandTitsianis2005.

16WorldBank2006.

17UNCTAD2006.

18SeeCorbettandJenkinson1996,and1997.

Source:FlowofFundsAccounts,USA,JapanandGermany

Therearedifferencesamongcountriesinthisrespect.UScorporations,forinstance,relymoreheavilyonissuingbonds.Thesedifferencesreflectthebank‐basedcharacteroftheGermanandJapanesefinancialsystemsasopposedtothemarket‐basedcharacteroftheUSsystem,brieflydiscussedinsection6.Butthetrendisnotindoubt. Put in Marxist terms, monopolies have become less reliant on banking credit tofinancefixedcapital.Circulatingcapital,ontheotherhand,continuestodrawontradeandbanking credit. Even there, however,monopolieshavegained direct recourse to financialmarkets, particularly by issuing commercial paper. Monopolies, therefore, have becomeincreasinglyimplicatedinfinance, evento theextentofmaintainingseparatedepartmentsfor operations in trade credit and financial securities. In short they have becomefinancialised,whilerelyinglessonbanks. Thedeeperreasons forthis fundamentaldevelopment areprobablyassociatedwiththe nature of information and telecommunications technology, and the correspondinglumpiness(ornot)offixedcapital.Alsoimportantarechangesintheinternalorganisationalstructureofmoderncorporationsaswellasvariationsinturnovertime.Irrespectiveofthesedeeperreasons,traditionalopportunitiesforbankstolendtocorporationshaveshrunk. Theprocessoffinancialderegulationsincethelate1960shasdrawnontheincreasingdistance between large corporations and banks. Large corporations have boosted openfinancial markets, activelyby‐passing controls overinterest ratesandquantitiesofcredit,thuspreparingthegroundforderegulation.Oncederegulationoccurred,commercialbankslost the captive deposits that had previously sustained their activities. The scope forconventionalcommercialbankingnarrowedevenmore.

The responsesofbanks to narrowing profit opportunitieshavebeenmanifold, buttwostandout.First,banksturnedtothepersonalrevenueofworkersandothersassourceof profit. Second,banks focused on financialmarketmediation, i.e. increasinglyacquiredinvestment banking functions. These are closely related to each other; the former isanalysedinthissection,thelatterinthenext.


Theturnofbankstowardpersonalrevenueasfieldofprofitabilityexhibitssignificantvariations among advanced countries according to their own historical and institutionaldevelopment.Butthegeneraltrendisbeyonddispute:

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Source:FlowofFundsAccounts,USA,FederalReserve

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This fundamental trend presupposes increasing involvement of workers with themechanisms of finance in order to meet elementary needs, such as housing, education,health, and provision for old age. Only then would banks be able to extract significantprofits directly from wages and salaries. Once again, there aremajor differences amongdevelopedcountries inthisrespect, reflectinghistory,institutions,andplaincustom.Still,the increasing ‘financialisation’ of individual worker income is clear, in terms both ofliabilities(mostlyborrowingforhousing)andassets(mostlypensionsandinsurance):

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Widespread implication of workers in the mechanisms of finance is the basis offinancial expropriation. However, theproportion ofworker income that accrues to banksand other financial institutions is hard to measure on an aggregate scale. Yet, from theperspectiveoflargebanks, thereisnodoubt at all thatlending to individualshasbecomeincreasinglyimportant forbank profits.19 Moreover, theUSA offerssomeevidence aboutrecenttrendsattheaggregatelevel:

Source:HouseholdDebtServiceandFinancialObligationRatios,FederalReserveBank

Financial expropriation, then, is a sourceofprofit that has emerged systematicallyduringtherecent decades. It shouldbeclearlydistinguishedfrom exploitation that occurssystematically in production and remains the cornerstone of contemporary capitalisteconomies.Financial expropriation is an additional sourceofprofit that originates in thesphereofcirculation.Inso farasit relatesto personal income,it involvesexistingflowsofmoney and value, rather than new flows of surplus value. Yet, despite occurring incirculation, it takes place systematically andthrough economicprocesses, thushaving anexploitativeaspect.20

In Marxist theory, the sphere of circulation is not natural terrain for exploitationsincecommoditytradingistypicallypremisedonquidproquo.Onlyiftradershappenedtobemisinformedaboutvalues,orextra‐economicforcewasapplied,couldexploitationarise.Thatwoulddifferinkindfromregularcapitalistexploitation,which isbothsystematicandeconomic in character. However, financial transactions are about dealing inmoney andloanablemoneycapital, rather than in produced commodities. They typically involve theexchangeofpromises and obligationsbasedon trust, insteadofdirect quidpro quo.The


19DosSantos2009.

20Indraftversionsofthisarticlefinancialexpropriationwascalleddirect,orfinancial,exploitation.However,thetermfinancialexpropriationbetterconveysthepivotalroleoffinancialmechanisms,whileavoidingconfusionwithexploitationatthepointofproduction.Thisdoesnotprecludetheexistenceofexploitativeprocessesincirculation.

final transferofvaluebetweenfinancecounterpartiesdependsoninstitutionalframework,legalarrangements,informationflowsandevensocialpower.

Advantages in informationandpowermake it possibleforfinancial institutions todeal with individuals differently from capitalist enterprises. The latter have reasonableaccess to information andarenot inferior tofinancial institutions insocial andeconomicpower.Thefinancialservicestheyobtainarenecessaryfortheproductionandcirculationofvalue and surplus value. Charges for these services generally fall within limits that aredeterminedineveryperiodbytheavailabilityofloanablecapitalandtheprofitabilityofrealaccumulation. Ifitwereotherwise,capitalist enterprisescouldinprinciplebypassexistingfinancial mechanisms, for instance, by relying more on trade credit or by setting upalternativemechanisms ab ovo. To put it differently, capitalist usersoffinance engage ineconomiccalculusthatisdictatedbythelogicofthecircuitoftheirowncapital.Asaresult,andonaverage, theremunerationoffinancial enterprisesin theirdealingswithproductiveandcommercialenterprisescomplieswiththedictatesofthetotalsocialcapital.

Incontrast,financedirectedtopersonalrevenueaimstomeetbasicneedsofworkersandothers–housing,pensions, consumption, insurance, andso on. Itdiffersqualitativelyfromfinancedirectedtocapitalistproductionorcirculation.Individualsfocusonobtaininguse values, while enterprises aim at the expansion of value. Consequently, the financialactions of individuals are driven by different objectives, motives, information, access toalternatives, and ability to ‘economise’ compared to enterprises. Moreover, individualworkers and others who seek to meet basic needs through finance ‐ particularly in thecontext of limited social provision – have few options in by‐passing, or replacing, themechanisms of the financial system. Hence individual income can become a target forfinancialexpropriation.

Profit from financial expropriation is reminiscent of usurer’s profit. The lattertypically arises as production becomes commercialised, thus making (non‐capitalist)producers dependent on money as means of payment.21 It also arises as consumers(especiallyofluxurycommodities)cometodependonmoneyasmeansofpayment.Interest


21Marxdiscussedusurer’sprofitinseveralplaces,forinstance,1861‐63,pp.14‐19,and1894,ch.36.

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received by the usurer derives from monetary returns accruing to both producers andconsumers, and caneveneat into theminimum necessary forreproduction. It isdifferentfrom interest receivedbyfinancial institutionsforlending to productivecapitalists,whichderives from profit systematicallygenerated inproduction. By the same token, advancedfinancial institutions differ from usurers. But in times of crisis the former can becomeusurious,extractinginterestoutofthecapitaloftheborrower,ratherthanoutofprofit.22

In financialised capitalism the ordinary conditions of existence ofworking peoplehavecomeincreasinglywithinthepurviewofthefinancial system. Individual dependenceonmoneyasmeansofpayment (not onlyasmeansofexchange)has becomestrongerassocial provisionhas retreated in thefields of housing, pensions, consumption, education,andsoon.Accesstomoneyincreasinglydictatestheabilitytoobtainbasicgoods,whilealsorationing supply.Thus theusurious aspect of advancedfinancial institutionshasbeen re‐strengthened,exceptthatfinancialprofitsarenowgeneratednotonlybyinterestbutalsobyfees.

Themorethat individualworkershavebeenforcedto relyonfinancial institutions,themoretheinherentadvantagesofthelatterininformation,power,andmotivationhaveallowed them to tilt transactions to their own benefit. Elements of supremacy andsubordination are present in these relations, though there is no direct analogue withexploitation in production.23 Still, financial expropriation draws on a fundamentalinequalitybetweenfinancialinstitutionsandworkingpeopleaccessingfinance.

4.2Banksturntofinancialmarketmediation:Theadvanceofinvestmentbanking

The growth of open financial markets, involving primarily shares, bonds andderivatives, has presented bankswith further opportunities for profit making. Share andbondpricesresultfromdiscountingfuturepayments,usingtherateofinterest(adjustedforrisk) as benchmark.24 Marx called this process the formation of ‘fictitious capital’, thuscapturing its distance from value creation in production.25 Derivatives markets allowparticipantstomakebetsaimedatmanagingrisk,orsimplyspeculating.26Theirpriceshaveafictitiouselement,butthatderivesfrom institutionalpracticesandnormsoftrading.TheriseoftheBlackandScholesmodel (orvariants) inthecourseoffinancialisationhasgiventoderivativespricesanairofobjectivereality.27

Open financial markets are natural terrain for investment banks, which differsubstantially from commercial banks.28 Investmentbanks arefinancialmarketmediatorsthatmobiliseshort‐term fundstoinvestinsecurities.Theydonot takesmalldeposits,and


22Marx1894,p.734.

23Marx,1876,p.1027,thoughtoftheseasfundamentaltoexploitation.

24Hilferding1981,ch.8,advancedtheoriginal,andstillmostpowerful,analysisofsharepriceswithinMarxistpoliticaleconomy.

251894,ch.29.

26VerylittleguidanceonderivativescanbefoundinthecorpusofMarxistpoliticaleconomy.SomestepsinformingananalyticalframeworkweretakenbyBryanandRafferty2007,thoughtheyerroneouslytreatderivativesasmoney.

27PenetratingsociologicalanalysisofthisprocesshasbeenprovidedinaseriesofpapersbyMacKenzie,forinstance,2003,and2004,andMacKenzieandMillo2003.

28Theyarealsonaturalterrainforinsurancecompanies,moneytrusts,unittrusts,moneyfunds,hedgefundsandpensionfunds.Theseintermediariesdiffercriticallyfrombankssincetheirliabilitiesarenotmoney,andnordotheylenddirectlyforproductionpurposes.Theyhavegrowninrecentyearspartlybecausethestatehasretreatedfromwelfareprovision,particularlypensions.Theirgrowthhasbeenfelicitouslycalled‘pensionfundcapitalism’byToporowski2000.

theirliabilitiesdonotfunctionasmoney.Bythesametoken,theylieoutsidetheregulatoryframework of commercial banks, including deposit insurance and capital adequacy.Investment banks derive profits from fees and commissions to facilitate securitiestransactions (providing information about counterparties, placing securities with buyers,reducingtransactionscosts,underwritingsecurities,andso on) aswellasfromproprietarytrading.Theseactivitiescanbecalledfinancialmarketmediation.

Investment bank profits pose difficult problems for political economy. Hilferdingsuggestedthattheyarepartof‘promoter’s’or‘founder’s’profit,thatis,ofthevalueofsharesdiscountedattherateofinterestminustheirvaluediscountedatthe(higher)rateofprofit.29Thisdifference,hepostulated,isthefutureprofitofenterpriseaccruingasalumpsumtothesellerofequitiesatthetimeofanInitialPublicOffering.ButHilferding’sanalysisneedstoberethought,sincedifferentratesofdiscountcouldhardlybeappliedtothesameflowofexpected returns without financial markets becoming segmented. Moreover, the futureprofitsofenterprisearelikelytoaccruetothosewhocontinuetoruntheenterprise,notthesellersofshares. Itismoreplausiblethat investmentbankprofitsresultfromthedivisionofloanablemoneycapital (and plainmoney)mobilised throughopenfinancialmarkets. Thestock ofavailableidlemoneyismobilisedeitherindirectlythroughbanks,ordirectlythroughopenfinancialmarkets.30 Butdirectmobilisationisstill facilitatedbybanksandotherfinancialinstitutions,whichareremuneratedthroughashareofthesumstraded.Sincethisprocesstakes place on thebasis of fictitious prices, it is susceptible to sentiment, rumours, andmanipulation.

Two fundamental trends have encouraged the adoption of investment bankingfunctionsbycommercial bankssincethelate1970s.First, successivewavesofmergersandacquisitionshave taken place among ‘financialised’ corporations. Stock marketshave notbeen significant sources of finance for fixed investment in recent years, but they havecertainlyfacilitatedtheconcentrationandcentralisationofcapital throughIPOs,leveragedbuy‐outsandsimilartransactions.31

Second,thesavingsofworkersandothershavebeendirectedtowardopenfinancialmarketsthroughstatepolicy.Theintroductionofregulation401KintheUSAin1978madepension savingsavailableforstockmarket investment. Similarprocesseshave occurred inthe UK through Personal Equity Plans (PEP), Tax‐Exempt Special Savings Accounts(TESSA), and Individual Savings Accounts (ISA). These are integral elements of the‘financialisation’ofworkers’income.

The turnof commercial banks toward financial marketmediation in the USA wasconfirmedand promotedby the abolitionof theGlass‐Steagall Act in 1999. TheAct hadbeeninplacesincethegreatcrisisofthe1930s,preventingcommercialbanksfromformallyengaging ininvestmentbanking.Theformalseparationof functions reflectedtheinherentdifference in liquidity and solvency requirements between the two types of banking.Commercial banks rely for liquidity on amass ofmoney‐like deposits, while investmentbanks borrow heavily in open markets. Analogously, commercial banks need capital toconfrontlosses from lendingonproductionprojects,whileinvestmentbank typicallyneedlesssincetheyinvestinsecuritiesheldforrelativelyshortperiodsoftime.


291981,pp.128‐9.

30ForfurtheranalysisofthisseeLapavitsas2000.

31Thishasraisedimportantissuesofcorporategovernanceand‘shareholdervalue’,seeLazonickandO’Sullivan2000.ThisdebatehasalongpedigreeandoriginatespartlyinMarxistliterature,particularlyMarx,1894,pp.512‐4,andHilferding,1981,ch.7.Butsincethefocusofthisarticleisonbanks,thereisnoneedtoconsideritfurther.

Mixing the two types of banking could result in disaster, particularly as depositholders could be scared into withdrawing their funds from commercial banks that haveengaged in investment banking. This was one of the contributory causes of the greatdepressionofthe1930s.Inarelatedway,discussedbelow,ithascontributedto thecurrentcrisis.

4.3Thelethalmixoffinancialexpropriationandinvestmentbanking

Thedestructiveinterplayofliquidityandsolvencythathasmarkedthecurrentcrisishas its roots in the trends outlined above. Commercial banks are intermediaries thatessentiallyborrowshorttolendlong–theyareheavily‘leveraged’.Hencetheyneedtokeepsomereasonablyliquidassetsto deal withdepositwithdrawals; theymustalsomaintainasteady inflow of liquid liabilities to finance their own lending; finally, they must holdsignificantowncapitalto takelossesonlendingandavoiddefault.Theserequirementsarecostly, forcing commercial banks to walk a tightrope between liquidity and solvency.32 Financialisationprofoundlydisruptedthisprocess.

Considerfirstthelending,orasset,sideofbanking.Forcommercialbanks,engagingin financial expropriation means primarily mortgage and consumer lending. But sincemortgages typically have long duration, heavy preponderance would have made bankbalance sheets insupportably illiquid. The answer was securitisation, i.e. adoption ofinvestment banking techniques. Mortgageswere originated but not kept on the balancesheet. Instead they were passed onto Special Purpose Vehicles (SPV) created by banks,whichthenissuedmortgage‐backedsecurities.

Thecreditworthinessofthesesecuritieswasascertainedbyratingsorganisations,andtheywerealsoguaranteed(‘creditenhanced’) byspecialist creditinsurers.Oncetheyweresold, banks received theoriginal mortgage advance and could engage in further lendingafresh.Mortgagepaymentsaccruedasinterest tosecuritiesholders,whileallotherparties,includingtheoriginatorsofmortgages,earnedfees.

For commercial banks, therefore, the adoption of investment banking practicesturned lending(to earninterest) intomediatingthecirculationofsecurities(to earnfees).Securitisation was naturally extended to other assets, such as credit card receivables,automobileloans,homeequityloans,andsoon.Inthisvein,independentinvestmentbankscreatedCollateralisedDebt Obligations (CDOs) by securitising abroadmixofunderlyingassets, including mortgages, consumer credit, regular bonds, and even mortgage‐backedsecurities. Banks appearedto have found awayof keeping theasset sideof theirbalancesheet permanently liquid, while constantly engaging in fresh lending. This wonderfuldiscoverywascalledthe‘originate‐and‐distribute’bankingmodel.

Commercialandinvestmentbanksmighthavebeensparedtheworsthadtheybeenableto keepaway from thewitches’ brewtheywereconcocting andsellingto others.Butduringthebubblemortgage‐backedsecuritiespaidhighreturnsandcreditwascheap.Thus,banksbegan to set up Structured Investment Vehicles (SIV), that is, financial companiesthatraisefundsinthemoneymarkettopurchasesecuritisedassets,includingCDOs.Banksalso lent (or set up) ahost ofotherfinancial institutions(including hedge funds) for thesamepurpose.

Bank assets, finally, grew through the investment banking practice of trading inCreditDefaultSwaps(CDS).Thesearederivativesinwhichoneparty(theseller)promises


32Thisisasoldasbankingitselfandhasconcernedclassicalpoliticaleconomists.Steuart,forinstance,1767,bk.IV,pt.I,ch.I,stressedsolvencybecauseheadvocatedbanksmakinglong‐term,largelyilliquidloans.Smith1789,bk.II,ch.II,ontheotherhand,stressedliquiditybecausehesawbanksassuppliersofshort‐termcirculationfunds.Thebalanceisdeterminedineachhistoricalperiodbytheneedsofrealaccumulation,institutionalstructure,law,andcustomarybankpractices.

fullytoreimbursetheother(thebuyer)forthevalueofsomeunderlyingdebt,providedthatthebuyerpaysaregularpremium.Atthepeakofthebubble,theirgrowthwasastonishing:

Table8.CreditDefaultSwaps,NotionalAmountOutstanding,$bnJun 2005 Dec 2005 Jun 2006 Dec 2006 Jun 2007

10211 13908 20352 28650 42850Source:BISvarious

CDSaresimilartoinsurancecontracts,thusappearingtoofferbankscoverfortheirexpandingassets.But theyarealso excellentvehicles forspeculationif,say,theunderlyingdebtisthebondofacompanywhichabankthinksmightgobankrupt.SpeculationbecametheprimepurposeoftradinginCDS,addingtothedestructiveforceofthecrash.

Considernowtheimplicationsofthesepracticesfortheliabilitysideofbankbalancesheets. To sustain expansion through securitisation, banks needed access to wholesaleliquidity, that is, borrowing in themoneymarket. Independent investment banksled thetrendthroughevergreaterrelianceonissuingpaper inthemoneymarket.Inevitablytheywere joinedby commercial banks.33 Thiswaswhythe crisis first burst out in themoneymarket.

The implications for solvency were equally profound. Investment banks havetraditionallyoperatedwithlowercapitalrequirementsthancommercialbanksowingtothedifferentnatureoftheirbusiness.Duringthebubble,theydrovetheircapital toextremelylowlevelsfalselybelievingthattheirexpandingassetsweresafeforreasonsexplainedinthenext section. Thiswas veryprofitable while it lasted, but ultimately contributed to theirdownfallastheycouldnottaketheeventuallosses.

Commercialbanks,ontheotherhand,typicallykeephighercapital ratios,whicharealsocloselyregulated.BasleIregulations,formalisedin1988,stipulatedthatinternationallyactivebanksshouldmaintainowncapitalequaltoatleast8%oftheirassets.BasleII,whichbegan to take shape in the late 1990s, allowed banks that usemodern risk managementmethods(discussedinthenextsection)tohavealowerratio,ifcertainoftheirassetshadalowerriskweighting.Theaimoftheregulationsevidentlywastostrengthenthesolvencyofbanks.Theactualoutcomewasexactlytheopposite.

For,capitalisexpensiveforbankstohold.Consequently,commercialbanksstrovetoevade the regulationsby shifting assets off thebalancesheet aswell as by trading CDS,which lowered the risk weightingof their assets. Therefore, Basle II effectively promotedsecuritisation. By engaging in investment banking practices, commercial banks couldcontinually ‘churn’ their capital, seemingly keeping within regulatory limits, whileexpandingassetsonandoffthebalancesheet.Inthismarvellousworld,banksappearedtoguaranteesolvencywhilebecomingmoreliquid.

When the housing bubbleburst, it became clear that these practices had createdwidespread solvency problems for banks. As mortgage‐backed assets became worthless,independentUSinvestmentbankswererenderedeffectivelybankrupt inviewofextremelylow capital ratios. For the same reason commercial banks found themselves in a highlyprecariousposition. Even worse, as thecrisis unfolded, Basleregulations forcedbanks torestorecapital ratiospreciselywhen lossesweremountingandfreshcapitalwasextremelyscarce.


33Japanesebankswereveryfortunateinthattheyhadonlyjuststartedtoengageinthenewpracticeswhenthebubbleburst.Hencetheyhavemaintainedalargeflowofdepositsrelativetotheirassets.

Therootsofthedisasterthathasbefallentheworldeconomyarenoweasiertosee.Theultimatebearers ofmortgages in theUSAwereworkers, oftenof thepoorestmeans.Real wageshadnot risen significantlythroughout thebubbleeven forworkers on higherincomes. Thus, the source of value that would ultimately validate both mortgages andmortgage‐backedassetswaspatheticallyweak.Onthisprecariousbasisthefinancialsystemhadbuiltanenormoussuperstructureofdebt,criticallyundermining itsownliquidityandsolvency.

Once defaults on subprime mortgages started in full earnest in 2006, securitisedassetsbecameveryrisky.Theycouldnotbeeasilysold,andtheirpricesdeclined.ForSIVsand hedge funds this meant that their assets worsened in price and quality, making itimpossibletoborrowinthemoneymarket.Confrontedwithbankruptcytheyhadtocallonthe banks that had funded them. Consequently, banks began to take losses, making itnecessary to replenish their capital aswell as restricting their credit. Naturally, they alsobecameextremelyreluctant to lendtoeachotherinthemoneymarket,furthertighteningliquidity.Fearledtofallingstockmarkets,whichmadebanksolvencyevenmoreprecarious.The destructive interplay of liquidity and solvency led to bankruptcy, collapse of credit,shrinkingdemand,andemergingslump.

4.4.Themismanagementofrisk,orwhatroleforbanksinfinancialisedcapitalism?

The disastrous performance of banks in the course of the bubble poses broaderquestions regarding theirroleinfinancialisedcapitalism.TheclassicsofMarxism thoughtthat banks play an integrating role in the capitalist economy by collecting information,transferringresourcesacrosssociety,andfacilitatingtheequalisationoftherateofprofit.34Butfinancialisationhaschangedthingssignificantly.

Banksevidentlyneed informationabout theirborrowersinorderto assess risk andkeep appropriate levels of capital. Mainstream economics postulates that banks acquireinformation in qualitative (‘soft’) and quantitative (‘hard’) ways.35 The former involvesregularcontactwithborrowers,personal relations,visitingthesiteofborroweroperations,andplacing staff on companyboards. The latter involvesanalysis of quantitative dataoncompaniesaswellasonmarketsandtheeconomyasawhole.

Financialexpropriationcombinedwithinvestmentbankinghaschangedthefocusofbanksfrom ‘soft’, ‘relational’methods towards‘hard’, statistically‐driven techniques.Morespecifically,toadvancemortgagesandconsumerloans,bankshaveadopted‘creditscoring’.Theseare‘arms‐length’ techniquesthatcollectnumerical information(income,age,assets,etc) that produces an individual scoreand can bemanipulated statistically.36 Loansareadvancediftheindividualclearsagiventhreshold.Subprimemortgageswerepreciselyloansforwhichthethresholdwaslow.

Banks have also begun to estimate the risk of default of their assets by applyingmathematically‐based models that utilise historical rates of default. These estimates arelargelyextrapolationsfrompast trends,stress‐testedwithin limitsindicatedbydata.Bankshavesimilarly learnt to applyValueat Riskmethods, which rely on correlations betweenassetprices(estimatedhistorically)andonvolatility(estimatedfromstockmarketprices).37


34Lenin1964,p.223,thoughtthatbankshadbecomeinstitutionsofatruly‘universalcharacter’incapitalistsociety,whileHilferding1981,p.368,imaginedthattheGermaneconomycouldbecontrolledthrough‘sixlargeBerlinbanks’.

3535Theseareclumsyterms,buttheirmeaningisclear.SeeBergerandUdell1995,andBerger,KlapperandUdell2001.

36Mester1997.

37ForstandardanalysisseeSaundersandAllen2002,pp.84‐106,andDuffieandSingleton2003,pp.31‐42.

On this basis, banks estimate their Daily Earnings at Risk (DEAR), that is, theprobabilitythatthevalueoftheirassetswoulddeclinebelowacertainlevelonadailybasis.Consequently, they can readjust themixof theirassetsto bring DEARwithinacceptablebounds.To thispurpose, bank assetsmust reflect current market valuations, rather thanhistorical prices. For this reason, the accounting practice of ‘marking to market’ hasprevailedinthecourseoffinancialisation.

Inference‐based computationally‐intensive techniques of risk management appear‘hard’ andhave a scientific air. They also fit well with the investment banking functionsacquiredbycommercialbanks.38 During thebubbleitwasuniversallyclaimedthatbankshad become experts in ‘slicing, packaging and pricing’ risk. Through securitisation theyapparentlyallowedrisk to beheldbythosewho trulywanted it, thusincreasing financialstability.39

Inference‐basedmanagementofriskbybankshasbeencalamitous.Foronething,itusespastpricestocalculatecorrelations,whichhardlyworksintimesoftheunprecedentedco‐movements of prices that characterisecrises. Furthermore, these techniquesmayhaveincreased the homogeneity of decision making by financial intermediaries, thusexacerbatingpriceswingsandgeneralinstability.40

Morefundamentally,thetechniquesappeartohaveledtofailurebythewholeofthefinancial system tocollect necessaryinformationproperlyto assessrisk.41 Mortgageswereadvanced on the basis of ‘credit scoring’ and on the understanding that they would berapidly securitised. The mortgage‐backed securities were assessed by credit ratingorganisations, which were paid by banks and thus had a vested interest in awardingexcellent gradesto securities toensure rapidsales.Moreover, theirassessmentofriskwasalso basedon inference‐basedtechniques.Thebuyers thenacquiredthenewsecuritiesontheblindassumptionthatallwasfine.

Atnopointintheprocesswastheregenuineduediligencedoneontheoriginalloansand subsequent securitisations. Banks imagined that they were shifting risk onto othersthroughsecuritisation. Ineffecttheyweresimplygivingadifferent formtoriskasloanstoSIVs, hedge funds and so on. When mortgage defaults started, the true extent of riskbecameapparent,andbankswereruined.

Putdifferently,theturnofbankstowardfinancialexpropriationandfinancialmarketmediation has resulted in loss of capacity to collect information and assess risk on a‘relational’ basis.Bankshave acquired someofthe characterof thebroker, while partiallylosing thatofthefinancial intermediary.This has createdproblemsin assessingborrowercreditworthiness in a socially valid way. For, in a capitalist economy this task hastraditionally been undertaken through partly ‘relational’ interactions ofbanks withotherinstitutionsandmarketsinthefinancialsystem.42

Thepicturethat emerges forcommercial banksis bleak.They areno longermajorproviders of investment finance to corporate enterprises; their capacity to collectinformation andassess risk hasbeencompromised; and theirmediationofworkers’needshasbeencatastrophic.Butthen,whatistheirfuturein thecapitalist economy?Tobesure


38AllenandSantomero1998and1999arguedthatthesechangesshowedthatthedeeperfunctionofbanksincontemporarycapitalismistomanageriskinformalways.

39Itgoeswithoutsayingthatthechangewouldhavebeenimpossiblewithoutthewidespreadadoptionofinformationtechnologybybanks.SeeLapavitsasandDosSantos2008.

40Persaud2002.

41Tocallthis‘mispricingofrisk’isuncharacteristicallylameofGoodhart2008.Therealissueissystemicfailuretoapprehendriskaltogether.

42SeeLapavitsas2003,ch.4.

theystill playavital role increatingmoneyandoperating thepaymentsmechanism.Yet,thisisnotaspecificallybankingactivity,andcouldbetakenoverbyotherinstitutions,suchas thepost office. Is there a futurebanking role for the enormousbanks of financialisedcapitalism?This isoneofthemost complexproblemsposedby thecurrentcrisis,andtheanswer is far from obvious. Needless to say, it immediately raises the issue of publicownershipandcontrolofbanks,along‐standingsocialistdemand.

5.Socialaspectsoffinancialisation:Thereturnoftherentier?

Itwas shownabovethat thecurrentcrisis isa result offinancialisation, whichis asystemic transformation of the capitalist economy pivoting on the financial system andinvolvingnewsourcesofprofit.Intherestofthisarticletheprecedinganalysisisplacedinabroadercontextbyconsideringsocialandpoliticalaspectsoffinancialisation.Thissection,then,considerstherenewedprominenceofrentiers,whoareoftenassociatedwithincomeand wealth accruing through the financial sector and have contributed to the rise ofinequalityduringthisperiod.Isfinancialisationaneweraoftherentierand,ifso, inwhatway?

Much of the literature on financialisation assumes (sometimes tacitly) that theascendancy of the idle rentier characterises contemporary capitalism.43 This is a heart aKeynesianapproacharguingthattherentierslowsdowntherhythmofaccumulationeitherbydeprivingtheactivecapitalistoffunds,orbyraisinginterestrates.Itisshownbelowthattherearesignificantproblemstoanalysingfinancialisationbycounter‐posingidlerentiertofunctioningcapitalist.

AnalysisoftherentiercanbefoundinMarxistpoliticaleconomy,withtheoccasionalreference coming directly from Marx.44 The strongest impact was made by Lenin’sdiscussionof‘parasiticalrentiers’ inhisclassictheoryofimperialism.45Lenintook theideafromHobson,theliberalcriticofimperialism.46 ThebulkofLenin’seconomicanalysis,ontheotherhand,drewonHilferding, inwhosework thereisno mentionof the‘parasiticalrentier’.Hilferdingdidnotrelatefinancetorentiersbut‐basedonMarx‐ arguedthat thefinancial system emerges necessarily out of real accumulation. Informed by Germancapitalism,healsohadnotruckwiththenotionthatrealaccumulationrunsintodifficultiesbecauseidlerentiersconstrainactiveindustrialists.

UnderpinningMarxist views on the rentier is the concept of interest‐bearing (orloanable) capital.47 However, thereis someambiguityinMarx’sanalysisofthesourcesofinterest‐bearing capital, which matters for the analysis of rentiers. At times Marx treatsinterest‐bearing capital as belonging to ‘moneyed’ capitalists,who area subsection of thecapitalistclass.48 ‘Moneyed’ capitalistslendcapitaltoothers,andaresatisfiedwithinterestwhich isa shareofprofits.ThoughMarxdidnotuse theterm in this context, ‘moneyed’capitalists are essentially rentiers, in contrast to active capitalists who borrow capital togenerateprofits.


43Veryselectively,Stockhammer2004,Crotty2005,EpsteinandJayadev2005,Pollin2007,Orhangazi2008.

44Forinstance,1894,ch.22.

451964,pp.276‐285.

46Hobson1938,ch.4.

47IntroducedbyMarxin1894,Pt5.

48Forinstance,1894,ch.21,22,23,24.

Atothertimes,however,Marxsuggeststhatloanablecapitalarisesoutofidlemoneygenerated in thenormal courseoftheoperationsof industrial andcommercial capital.49 Thus,loanablecapitaldoesnotbelongtoadistinctsubsectionofthecapitalist class,but isconstantly recreated in thecourseof real accumulation. Themain function of thecreditsystem is to mobilise idle funds, transforming them into loanable money capital andchannellingthembackto accumulation.Alongtheselines,Hilferdingspecifiesthesourcesofidlemoneyaswellasthecomplexwaysinwhichitbecomesloanablecapital.50

Onemerit of the latter approach is that it cuts through some of the confusionssurrounding the current debateon rentiers andfinancialisation.For, the incomeof thosewhomightbecategorisedascontemporaryrentiersdoesnotarisemerelyfrompossessionofloanable capital. Themanagers of hedge funds, for instance, draw extraordinary incomestypicallyfromfeesandlargesharesoftheannualprofits.Theseincomesderivefromusingthemoneyofotherstospeculateonfinancialassets.Remunerationoftentakestheformoffurther financial assets, bringing capital gains and evading taxation. Similarly, industrialmanagersdrawincomesintheformofstockoptionsandotherfinancialmechanisms,oftenmasqueradingas salaries. Substantial incomes, finally, accrueto accountants, lawyersandotherswhoprovidethetechnicalsupportnecessaryforfinancialoperations.

Suchincomesaredueinparttopositionandfunctionoftherecipientrelativetothefinancial system,ratherthansimplytoownershipofloanablemoneycapital,orevenofidlemoney.Modernrentiers,inotherwords,arenotplainmoneyholderswhoavoidthegrubbybusinessofproduction.Theyfrequentlyownloanablecapital,buttheirabilitytocommandextraordinaryincomeisalsomediatedbypositionrelativeto thefinancialsystem. Indeed,theydonotevenhavetofunctionwithinthefinancialsystem,forinstance,asindustrialandcommercialmanagers.

Therentierasownerofloanablecapitalatloggerheadswiththeindustrialcapitalistisof partial relevance to contemporarycapitalism.This isevenmoreapparent inrelationtoinstitutional investors.Pension funds, insurance companies, investment funds, andso on,collectidlemoneyleakedfromtheincomeofbroadlayersofworkingpeople.Theyprovidescopeforfinancial intermediariesto generateprofitsoutofhandlingsuchfunds.But theyalso generate returns for ‘financialised’ individualsacross social classes. Theycertainlydonotdistributetheirearningstoawelldemarcatedsocialgroupofrentiers.

Similarly, it iserroneousto treat theaggregateprofits offinancial institutions as ameasure of rentier income. Financial institutions ‐ above all, banks ‐ are not parasitessubsisting on the profit flows of industrious productive capitalists. In principle they arecapitalistenterprisesofferingnecessaryservices inthesphereofcirculation.Theyarethussubject to competition and tend to earn the average rate of profit. Financialisation hasentailedaturntowardfinancialexpropriationandfinancialmarketmediation.Buttherearenogroundsfortreatingfinancialinstitutionprofitsasproxyforrentierincome.

To recap,insofarasarentierlayercanbeidentifiedtoday, it has resultedfrom thedevelopmentofthefinancialsystem.Itdrawsincomefrompositionrelativeto thefinancialsystem aswell as fromownershipof loanable capital.Morebroadly, theability to extractrent‐like income through financial operations is a by‐product of the transformation offinanceratherthanitsdrivingforce.Theascendancyoffinancehassystemicorigins,anditsoutcomesarefarmorecomplexthan industrialistsbeingpresumablysqueezedbyrentiers.By the same token, confronting financialisation does not mean supporting hard‐workingindustryagainstidlefinance.


49Forinstance,1885,pp.165,203,248‐61,355‐9,423,569,and1894,ch.30,31,32.

501981,pp.70‐81.

6.Insteadofaconclusion:Isfinancialisationaneweraoffinancecapital?

Thefinalissuetobeconsideredinthisarticleistheanalogybetweenfinancialisationandtheascendancyoffinanceattheturnofthetwentiethcentury.Thelatterwas,ofcourse,analysedin theclassicalMarxistdebateson imperialism.51 Hilferdingputforththepivotalconcept of finance capital, capturing the epochal change that resulted from the alteredrelationship between industrial and banking capital.52 For Hilferding, as the scale ofproductiongrows,monopolisticindustrial capitalreliesincreasinglyonmonopolisticbanksfor investmentfinance, until thetwo becomeamalgamated, with banks in theascendant.Thisisfinancecapital,whichdominatestheeconomy,progressivelyrestrictingcompetitionand‘organising’theeconomytoserveitsinterests.

Hilferding analysis provided foundations for Lenin’s subsequently canonicalformulationofimperialism.Bauerhadalreadyestablishedthatcartelsdemandedaggressivetariffstocreateexclusivetradingareasforthemselves.53 Hilferdingarguedthatcartelsalsoexportedmoneycapital tolessdevelopedcountriesto takeadvantageoflowerwages.ThiswastheendofBritish‘laissez‐faire’ capitalism,replacedbyGermanandUSfinancecapital.The late developers relied on the power of the state, hence spurring militarism andimperialism,with attendant racism.Lenin’stheory stressedmonopolymorestrongly, alsointroducingparasiticalrentiersandtheterritorialre‐divisionoftheworldamongimperialistpowers.ButtheunderlyingeconomicscamefromHilferding.54

Hilferding’sandLenin’sanalysisoffinancecapital and imperialism isamasterpieceof politicaleconomy,shedding light on theascendancyoffinanceanditsimplicationsforeconomy, societyandpolitics. It lookedsomewhatfrayedduringthe longpost‐warboom,since finance was strongly regulated, the USA subsumed imperialist divisions under itsstruggleagainst the Soviet Union, andawaveofliberationmovementsdestroyed theoldempires. But the rise of financialisation appears to have injected fresh life into it. Doesfinancialisation represent a return of finance capital? The short answer is no, but theanalogycastslightonthecurrentperiodforthefollowingreasons.

First,aswasshownabove,banksandlargeindustrialorcommercialenterpriseshavenot comeclosertogetherinrecentdecades,andnoris thereevidencethatbanksholdtheupperhand inrelationswith industry.Largecorporationshavebecomemoredistant frombanks,whileindependentlyengaginginfinancial transactions.Bankshavesoughtprofitsin‘financialised’ personal incomes as well as in mediating transactions in open financialmarkets.

Second,thecharacteroffinancialsystemshaschangedinwaysincompatiblewiththetheory of finance capital. All financial systems have common elements but the balancebetween them dependson stageofdevelopment,history, institutional structure, law andpolitics.Atypicaldistinctionisbetweenmarket‐based,orAnglo‐American,andbank‐based,or German‐Japanesefinancial systems.55 Broadly speaking, inmarket‐based systems, theweight of open financial markets is greater, while banks and industry have arms‐lengthrelations.Incontrast,bank‐basedsystemshaveprominentcreditsystemsandcloserelationsbetween banks and industry, often involving exchange of personnel and mutual shareholding.


51IncludingHilferding1981,Lenin1964,Luxemburg1951,Bauer2000,andBukharin1972.

521981,p.225.

53Bauer2000.

54IncontrasttoLuxemburg1951,whoignoredfinancecapitalinheranalysisofimperialism.

55Alsousedinmainstreameconomics,forinstance,Allen&Gale2001.

Hilferding’s theory offinance capital is oneof the earliest analyses of bank‐basedfinancialsystems.Implicitinhistheoryisthatfinancialsystemsbecomeprogressivelybank‐based as finance capital emerges. However, the rise of open financial markets, and thetransformationof banks in recent decades are not consistent with such a trend.On thecontrary, therehas been aglobal shift towardmarket‐based systems, drawing on theUSmodel,thoughbank‐basedsystemshavenotdisappearedbyanymeans.

Third, for both Hilferding and Lenin exclusive trading zones are vital to theemergenceofterritorialempires.Butfinancialisedcapitalismhasnotproducedphenomenaof this type, instead there have been pressures for lower tariffs and a homogeneousinstitutional framework of trading. To be sure, the process has been uneven andcontradictory, typically involving discrimination against less developed countries. Stateshavealso createdtradingblocs(aboveall, theEuropeanUnionandNAFTA), thoughtheseare not generally exclusive. Inall, there has been nothing comparable to the competitiveimpositionoftariffsthatcharacterisedtheeraoffinancecapital.

Fourth,Hilferding’stheoryhaslittletosayonthesystematicinterventionofthestatein thesphereoffinance,despitehispredilectionfor ‘organised’ capitalism.56 Butthestatehasbeenpivotaltotheriseoffinancialisation.Foronething,thestatehaspursuedfinancialderegulation. For another, the state is the power behind the central bank both throughsupplying it withbonds and throughdeclaring central bank liabilities to be legal tender.Withoutthestate’sbacking,centralbankswouldhavebeenmuchlesseffectiveduringcrisesof financialisation.Morebroadly, the statehas emerged as theultimateguarantorof thesolvencyoflargebanksandofthestabilityofthefinancialsystemasawhole.

Finally, fifth,financialisationhas beenaccompaniedbyextraordinaryturbulence intheinternationalmonetarysystem.Gold‐theworldmoneyofHilferding’sandLenin’sday‐hasbecomemarginal to the internationalmonetarysystem,areserveoflast resort. In theabsenceofagenuineanchor,theUSdollarhasgraduallyemergedasquasi‐world‐money.Itwas shown above that developing countries have been forced to accumulate enormousdollarreserves in recent years.Thishasbenefitedprimarily theUSA sincepoorcountrieshavesuppliedwithloanablecapital,thusallowingittosustainsubstantialtradedeficits.Butthe leading imperialist country has also paid a price as the housing bubble intensified,leadingtothecurrentcrisis.

Financialisation, in short, does not amount to dominance ofbanks over industrialand commercial capital. It stands rather for increasing autonomyof the financial sector.Industrial and commercial capitals are able to borrow in open financial markets, thusbecoming heavily implicated in financial transactions. Financial institutions have soughtnewsourcesofprofitabilityinfinancialexpropriationandinvestmentbanking.Meanwhile,workershavebeenincreasinglydrawnintotherealmofprivatefinancetomeetbasicneeds,includinghousing,consumption,education,healthandprovisionforoldage.Thishasbeenaneraofunstableandlowgrowth,stagnantrealwages,andfrequentfinancialbubbles.Thecurrent crisis represents a gigantic concatenation of the imbalances, tensions andexploitative aspects of financialised capitalism. The need for alternative economicorganisationthatiscrisis‐freewhileservingtheinterestsofworkingpeopleisapparent.


56ThesameholdsforBukharin1972,despitehisstrongemphasison‘organised’capitalism.

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R E S E A RC H O N M O N E Y A N D F I N A N C E · Crisis and Financial Expropriation Costas Lapavitsas ... School of Oriental and African Studies 15 February 2009 Research on Money