Perhaps the defining feature of the global economy in the past few decades has been its increasing financialization. Capital flows have moved rapidly across borders, financial engineering has grown by leaps and bounds and both leverage and speculation have increased manifold. The centrality of finance to the global economy has been brought home recently in more ways than one. First, the subprime mortgages in the US, which few people outside that country had even heard of, found their way into the portfolios of many investors outside the US. Next, the series of rate cuts by the US central bank, in response to the seizing up of the credit markets, has sent the dollar plummeting and the price of commodities soaring, stoking global inflation.
While the sudden withdrawal of liquidity from stock markets worldwide sent stocks downhill, the discovery of commodities and crude oil as “asset classes” helped drive up their prices.
Few people raised their voices against the financialization of the economy as long they profited from it. Instead, they argued that risk was being distributed across the world, diminishing the chance of a crisis. The financial implosion in the most developed markets of the world has put paid to that theory. But financialization may actually be the result of deep-rooted underlying forces in the economy, rather than merely the effect of financial engineering. And it could be a much older phenomenon than most of us think.
Almost a hundred years ago in 1910, Austria-born economist Rudolf Hilferding wrote a book called Finance Capital. Hilferding was a leading light of the German Social Democrats, becoming finance minister during the Weimar Republic (a term used for the democratic and republican period of Germany) before being forced into exile and death at the hands of the Nazis.
But his legacy lives on. In his book, Hilferding described the emergence of a new type of capitalism dominated by the banks. He believed that the power of the old manufacturing interests had waned, pushed aside by a whole new breed of powerful bankers who controlled the pursestrings of the economy.
“Through this relationship,” he argued, “capital assumes the form of finance capital, its supreme and most abstract expression.”
Although Hilferding’s description of finance capital was an accurate reflection of the trends of his time rather than a forecast of the future, he was dead right about the increasing importance of finance in the modern economy. Of all countries, the process of financialisation has gone furthest in the US. A 2006 report by McKinsey and Co. pointed out the US financial markets account for 45% of global equities and 51% of private debt securities. As much as 89% of all foreign exchange trades are against the dollar. In 2004, the profits of the US financial sector accounted for 40% of all US domestic corporate profits.
In fact, some observers argue that there have been earlier episodes in history marked by the domination of finance capital.
French historian Fernand Braudel, for instance, said that “finance capitalism... was no newborn child of the 1900’s.” He pointed out that “in the past”, in say Genoa or Amsterdam, following the accumulation of capital on a scale beyond the normal channels for investment, finance capitalism was already in a position to take over and dominate, for a while at least, all the activities of the business world.
Giovanni Arrighi, professor of sociology at Johns Hopkins University in the US, developed this notion further, arguing that the dominance of finance had been achieved earlier in places such as Genoa, Holland and UK, before it shifted to the US. Although the principal actors in the drama have changed, the pattern has always been the same—commercial success followed by the rise of rival centres of power, which leads to the financialization of the erstwhile dominant economy.
For instance, as Britain lost its predominant place in manufacturing to the US, it continued to receive income from the investments it had made abroad and finance, instead of manufacturing, became the dominant sector in the UK. Earlier, something very similar had occurred in Holland, as that country lost its pre-eminent position in European commerce to England. At present, the same process is happening in the US.
According to this view, the pre-eminence of finance in countries such as the US and the UK, often justified on the grounds of the superiority of their economic model, is actually a sign of weakness, a signal that the country has passed the peak of its powers. Braudel calls it “a sign of autumn”. Could it be that the US is now in the process of losing its pole position in the world to China? In the last few years, there has been no dearth of articles and books extolling China’s arrival on the world stage. Arrighi, like many other observers, believes that country’s ascent is reminiscent of the rise of the US during the world wars of the first half of the 20th century.
But if history is any guide, any transition from a US-led world is going to be far from painless. Arrighi points out that while the means by which one power replaced another varied considerably, “in all transitions, wars were essential ingredients in the change of guard at the commanding heights of world capitalism.”
Manas Chakravarty looks at trends and issues in the financial markets. Your comments are welcome at email@example.com