New Internationalist

Debt – a global scam

July 2013

The standard response to the current financial crisis has been to punish the presumed debtors. Are the creditors blameless, then? asks Dinyar Godrej.

It’s almost a reflex. Think about debt and we think first about something owed. Then come secondary considerations of whether it ‘should’, ‘ought’ or ‘must’ be paid back, how this should happen, and whether possible.

Large outstanding personal debts – say a mortgage taken out during a housing bubble – can turn even the stoutest of us into ‘quivering insomniac jellies of hopeless indebtedness’ (as Margaret Atwood so accurately puts it). Debt is, we feel, whatever the rights or wrongs, ‘our own fault’.

We can’t help it, we are socialized to take such a moral view of debt.

A tiny creditor class is cornering untold riches for itself at the cost of global stagnation

But other moral views can also come into play. As a schoolchild in India in the 1970s, I remember many of the stories we read during Hindi lessons. A surprising number of the stories harkened back to feudal values and the need to change them and many featured the universally loathed figure of the moneylender.

One story that has remained in my mind tells of an impoverished paterfamilias who is forced by poverty into the clutches of a wealthy moneylender who extends credit at a scouring rate of interest (consider the pay-day loans offered by sharks to struggling families today). The poor man does everything to try to repay the loan while his family sinks ever deeper into the most abject want. Eventually he is reduced to suppressing notions of his honour and starts avoiding the creditor. The closing scene has the moneylender at the threshold of the family’s hovel. Getting no response from those cowering inside he yanks down a curtain to take as part payment of the debt – only to find the household’s women huddled together to conceal the flesh left bare by the rags they are dressed in. This finally shames the moneylender, who turns around and departs empty handed.

Putting to one side what the tale reveals about patriarchal values and the Indian taste for melodrama, consider the questions this raised in my young mind, mainly to do with ‘wrongness’. Wasn’t the debt wrong? Wasn’t it wrong for someone so rich to drive someone so poor into the ground? Wasn’t it dishonest and criminal? Shouldn’t the poor man have had help? What was quite clear was that the notion of debt as something owed really couldn’t apply in this case – it was just senseless exploitation.

Extractive élite

This may seem like an extreme example but it gives the flavour of the kind of extractive, unproductive debt that is gripping the world’s financial system today, where a tiny creditor class is cornering untold riches for itself at the cost of global stagnation, even collapse, with no indication that any shame is forthcoming. In an essay entitled ‘Can debt spark a revolution?’, anthropologist David Graeber states quite bluntly: ‘Debt is how the rich extract wealth from the rest of us, at home and abroad.’1

John Kolesidis/Reuters
Speaking the naked truth to power, this Greek protester brings his anti-austerity message to parliament in Syntagma Square Athens. John Kolesidis/Reuters

In the dominant narrative of our times, that of the pulling away of the one per cent from the rest of the world, debt plays the starring role. Among the ruins of the financial crash, its originators have managed to corner yet more assets and wealth than they had already, and are likely to use it in yet more destructive ways unless stopped.

Obviously the one per cent are the super-rich, but in functional terms their more important characteristic is that they are creditors in a world supposedly awash in debt. According to Graeber, they are ‘those who are able to turn their wealth into political influence and their political influence back into wealth again. The overriding imperative of government policy is to do whatever it takes, using all available tools – fiscal, monetary, political, even military – to keep stock [or share] prices from falling. The most powerful empire on earth [the US] seems to exist first and foremost to guarantee the stream of wealth flowing into the hands of that tiny proportion of its population who hold financial assets.’1

This is all about using the power of money to ring-fence assets in the most socially unproductive way possible – to milk them to make more money (or bring down the world in the attempt). US economist Michael Hudson describes it as a process of turning industrial capitalism into finance capitalism. He writes: ‘The finance, insurance and real estate (FIRE) sector has emerged to create “balance sheet wealth” not by tangible investment and employment, but financially in the form of debt leveraging and rent-extraction.’2 This class of capitalist rightly goes by the name of rentier. ‘Their plan is to capitalize land rent, natural resource rent and monopoly privileges into loans, stocks and bonds,’ according to Hudson. Spot any productive activity yet?

All the effort goes into pumping up asset prices, including inflating property bubbles, creating ever greater indebtedness so that rent can be skimmed off anyone who isn’t already too poor to participate.

Before the 2007 financial crash happened, debt almost came to be seen as something to be embraced – house prices would rise indefinitely through the magic of the market, credit chased prospective takers regardless of their ability to repay. As long as interest could be paid, the bankers could milk and the public would obligingly expose an udder. The idea of saving morphed into that of paying down debt. The flipside of such ‘participation’ was that it also demanded the State step out of the way, or rather abet the interest-rent mentality, by increased privatization, decreased public provision, and a completely hands-off approach to financial regulation.

Volumes have been written about how banks and shadier financial institutions suffused the entire financial system with risk in their pursuit of ever greater profit, using ever more complex and obscure financial ‘products’, and using creative and devious ways to skirt the few checks that lay in their path. It has a quality of the dark arts about it because no-one understands it – in a recent BBC documentary, seasoned financial journalists and former bankers lined up to say how no-one could understand the risks being taken because of the lovely algorithmic intermeshing of financial activity that was too complex for a feeble human brain to follow.3

bonds an IOU with a specific repayment date and fixed interest. They can be issued by companies, banks or governments to raise money and are traded by banks and investors.

debt leveraging refers to using debt (borrowed funds) to supplement investment which can amplify profits – and losses.

shorting or short-selling when investors borrow an asset whose price they think will fall, in order to sell on. The aim is to buy back when the price drop occurs and keep the difference, returning the asset to the owner.

By a thousand cuts

But the main results of the crash are less complex to follow. That in a globalized financial system what started as a fire in the US soon spread worldwide. That for the poor there is little hope of redemption as governments are throwing so much public money at bailing out banks and trying out ludicrous incentives to restore the status quo – a return to housing and financial bubbles asap, for example – that they refuse to invest in public goods. That for the people in the middle, material life has considerably soured. That the super-rich can make money from any débâcle – like hedge fund manager John Paulson who pocketed $15 billion shorting sub-prime mortgages as the US housing market buckled in 2007.

The paying for every gigantic mistake of this clique by the rest – how long before it ends in violence?

So while one in seven US citizens has a debt collector on their tails, and whereas the average blue-collar household only retains 20-25 per cent of its income after debts and taxes, the US administration creates new debt by the trillion to keep the old finance-created debt overhang in place, doling out fortunes to banks.1,2

And in Britain, while it is announced that the number of sterling millionaires almost doubled in the last two years, and the chancellor actually lowered the tax rate for high earners, those on low-to-middle earnings have seen their salaries shrink in real terms to such an extent that it will take until 2023 to catch up to pre-crisis levels. Meanwhile, reports of the doubling of marital breakdown in couples over 50 with debt problems, and the trebling of food bank users to half a million in just a year, have become news fodder. Mark Goldring, the chief executive of Oxfam, commented: ‘Cuts to social safety-nets have gone too far, leading to destitution, hardship and hunger on a large scale. It is unacceptable this is happening in the seventh wealthiest nation on the planet.’

Wave upon wave

The current crisis is the first to beach on the shores of the rich world. But it is only the latest in the line of crises that have emerged out of the ascendance of speculative capital – as opposed to capital that is invested in new production – following the liberalization of financial markets in the 1970s. Since then the economic orthodoxy has been to push countries to drop currency controls and regulatory safeguards and open up to the free flow of money (numbers on computers). Today this has resulted in currency trading at a level that is 30 times greater than ‘real economy’ trade in goods.4 Tiny fluctuations of exchange rates are pounced upon by foreign traders – often relying on computer systems that lead to herding effects – to trade large volumes of currency for profit.

Hassene Dridi/AP/Press Association Images
‘To live with a job or die fighting’: the stark message of this Tunisian protester demonstrating against unemployment. The country needs investment but remains saddled with debt. Hassene Dridi/AP/Press Association Images

Financial investment is often a game of numbers that has consequences in the real world. Like when hot cash floods a country, driving up the value of the local currency and consequently property prices, and altering the competitiveness of its products. And when it then, just as suddenly, departs, causing collapse – as happened during the Asian economic crisis of 1997.

Even on its own terms of promoting growth at all costs, financial liberalization has failed. A 2011 research paper for the Bank of England gloomily observed: ‘The current system has coexisted, on average, with: slower, more volatile, global growth; more frequent economic downturns; higher inflation and inflation volatility, larger current account imbalances; and more frequent banking crises, currency crises and external defaults.’5

As the current financial crisis in the rich world ripples through, new debt crises are building up in the Majority World as their exports are hit and international investment either retreats or comes in on a purely speculative basis. Loans being sought by low-income countries are rising again and their debt repayments will rise as well.

Suggestions for overhaul

Much has to change and to give. The political class in the rich world needs to stop being hostage to the ideology of the rentiers. Finance will always go for the short term and the quick hit – aiming to ride the next boom, forgetting the bust coming right behind it. At any rate, that ideology is clearly failing in this crisis. The propping up of the fortunes of a clique of creditors at the expense of continued debt service by the rest of the population, the paying for every gigantic mistake of this clique by the rest – how long before it ends in violence? The added insult of the demands of the clique for tax relief and the slashing of social provision will only exert deflationary pressures on the economy when what they want is to blow up the next bubble. It refuses to add up.

In comes quantitative easing, where a central bank creates eye-watering sums of new money out of thin air to try and channel it into the economy to stimulate that elusive debt-laden growth. In the US $2.3 trillion was earmarked for this purpose, which has been followed since September 2009 by monthly injections of $40 billion. Britain has committed $575 billion, with one of the main effects being yawning deficits opening up in pension funds. Cash gets released to help starters buy houses, but with the effect of maintaining already bloated house prices and larger mortgage debt. Looks like every boomerang hits the public neck.

As long as interest could be paid, the bankers could milk and the public would obligingly expose an udder

Naturally an overhaul of the financial system comes foremost when thinking people suggest ways out of the pile-up of debt crises. It has been suggested that we need global financial governance along UN lines – but one would need to change economic orthodoxy that favours liberalization, privatization and deregulation first. Nonetheless, limiting the ability of high finance to decamp to another country if regulation in one irritates it would only be good.

Debt campaigners have long suggested a debt court where nations could plead to have loans which should never have been made in the first place written off. So far the main options have been to go through the IMF’s ‘privatize everything’ wringer in order to qualify for debt relief or to default, which can only be done if one has at least a few international allies who would show solidarity. When Tunisia’s former dictator Zine El Abedine Ben Ali fled, he left the country saddled with $18.55 billion worth of foreign-owed debt. Tunisia’s yearly debt repayments amount to 15 per cent of government revenue. When it was mooted last year that the newly elected Tunisian government should consider a debt audit to see which of these loans should never have been extended in the first place, credit ratings agencies were quick off the mark, warning the country that they would drop its ratings grade if it did so, which would make it difficult to attract investment and would exacerbate unemployment.

Don’t bank on it

The suggestions for banking reform range from outright public ownership (which it is claimed would allow ‘governments to deliver the monetary policy central banks are unable or unwilling to deliver’); to greater regulation (yet to materialize in any substantial form despite much thundering from political pulpits); to not allowing them to get ‘too big to fail’ and allowing them to fail (still waiting on that one, too, unless one lives in Iceland); to cracking down on fat-cat bankers.6 On that last, a British survey of employees working in finance conducted in April found that the overwhelming majority held that those at the top were paid too much and that bankers were still encouraged to behave recklessly through their reward structures.7

Governments should certainly act urgently to separate investment banks, which can act as risk junkies, from commercial banks where ordinary people used to save their money and where they now funnel it towards their debts. Money creation should not be left in the hands of banks and they should be required to hold larger reserves to make them more stable. And what of derivatives trading, whose sole purpose is to make money from money by trading in bundled up loans and default insurance in complex (read impenetrable), intermeshed, risky and unregulated forms? Estimates of its worth range from $708 trillion to $1.2 quadrillion (or $1,200,000,000,000,000), leaving the entire world’s GDP lagging far behind at a mere $71.83 trillion.8 Even the murky shadow banking sector which includes hedge funds has bounced back from the crisis in rude health and is currently estimated at $67 trillion.9 Where is the regulation, the transparency, the clampdown?

Ralph Orlowski/Reuters
Besieged: police cordon off the HQ of the European Central Bank in Frankfurt, Germany, during the anti-capitalist ‘Blockupy’ demonstrations this June. Ralph Orlowski/Reuters

Then there is the small matter of tax. Unproductive currency and shares trading could lose its speculative charge if a modest 0.2 per cent tax were charged on it. Imagine the social gains if bubbles no longer bubbled. Currently the rentier class has parked $11.5 trillion in offshore havens – the lost annual tax income is, according to Tax Justice Network, five times what the World Bank estimated was needed to halve world poverty by 2015.

We could detail proposals for change at encyclopaedic length, but the big picture remains a social one. We are seeing unprecedented levels of wealth concentration in the hands of the very few and are letting them dictate economic policy. They have a god-given sense of entitlement and will continue extracting tribute. Thus in the wealthiest nations of the world it is considered normal that bright young people pay off debts for half of their working lives – if they can land the jobs, that is – just to get educated.

At the time of writing, The Economist’s global debt clock said the world was in hock to the tune of $50.8 trillion – in 2007, the year the current crisis kicked off, it was $29 trillion. Every 10 seconds another million dollars slides on to the tally. Even countries that are net surplus holders have significant government debt. The website asks: ‘Does it matter? After all, world governments owe the money to their own citizens, not to the Martians.’10

In the long run, government debt should recede to the background – the assumption is it’s never going to be paid in full but will fluctuate and roll over if need be – as long as the government uses the funds productively, working towards a social and dynamic economy that addresses the needs of the majority. When the crisis began, the Australian government came under pressure from rightwing media to run a budget surplus which would have taken billions out of the economy and only encouraged massive joblessness. Instead, the Rudd government’s stimulus packages used debt to strengthen the economy.11

Foreign-owed debt is much more dangerous if it cannot be managed, but even here it is in the interest of all parties to come to a productive end rather than leave the debtor on their knees. The current crisis has shown the intermeshing of private, national and international debt through a corrupt financial system. This crisis has left most commentators thinking that growth is the only way out, that the only sustainability one should be aiming for in such times is the sustainability of growth.

The logic seems to be to be keep issuing credit (hence more debt) to feed growth which would then need yet more credit to keep growing – so forth, ad infinitum, in ever increasing numbers, until presumably the planet goes pop.

We need a huge paradigm shift to face up to the overriding environmental debt looming over us. It will only be achieved by establishing that wealth resides in the fruits of the earth and the labour of its people; that the financialization of capital is a con. It will be achieved by governance for the 99 per cent and a striving for greater equality; and a balance rather than imbalance of wealth. The social moment is upon us – we are still trying to figure out the detail of what it would take, but we cannot let that stop us.

  1. The Nation, 5 September 2012.
  2. ‘Overview: The Bubble and Beyond’, 10 August, 2012; michael-hudson.com
  3. BBC2, ‘Risking it all’ from the series Bankers, broadcast 15 May 2013.
  4. Peter Stalker, The No-Nonsense Guide to Global Finance, New Internationalist Publications, 2009
  5. Quoted in The state of debt, Jubilee Debt Campaign, May 2012.
  6. Graham Turner, No Way to Run an Economy, Pluto Press, 2009.
  7. James Moore, ‘Bankers bash themselves as survey reveals toxic culture’, The Independent, 6 June 2013.
  8. Bank for International Settlements and derivatives expert Paul Wilmott for derivatives estimates; CIA World Factbook 2012 for GDP.
  9. Ben Moshinsky and Jim Brunsden, ‘Shadow Banking Grows to $67 Trillion Industry, Regulators Say’, 19 November 2012, bloomberg.com
  10. www.economist.com/content/globaldebtclock
  11. Bernard Keane and Glenn Dyer, ‘Here’s the real story of Australian debt’, crikey.com, 27 March 2013.

Front cover of New Internationalist magazine, issue 464 This special report appeared in the debt issue of New Internationalist. You can buy this magazine or, to get stories like this one through your door every month, subscribe.

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