Committee for the Abolition of Illegitimate Debt

The book discusses the banking crisis through both European and American lenses. It addresses two main themes: the proximate causes of the collapse, and recommendations for how to prevent it from happening again. Toussaint warns that the events could recur because the banks have not changed their pattern of destruction at all since the crisis—and the evidence he submits supports that claim. The book begins appropriately enough, given the author’s previous works on the destabilizing effects of massive debt, by linking the 2008 financial crisis to excessive leverage Leverage This is the ratio between funds borrowed for investment and the personal funds or equity that backs them up. A company may have borrowed much more than its capitalized value, in which case it is said to be ’highly leveraged’. The more highly a company is leveraged, the higher the risk associated with lending to the company; but higher also are the possible profits that it may realise as compared with its own value. . ’The culprit,’ he writes, ’is debt which has had an impact on real estate valuations, the financial sector in general, deregulation, private debt and speculation. The financial crisis was caused by the collapse of private debt’ (p. 20). Even the most inured reader will quiver at the statistics Toussaint presents in support of this view, among them that ’the debt of the poorest 20% of households rose by 90% between 2000 and 2008.’ This has become well-trod ground in assessments of the proximate cause of the crisis.

It is when Toussaint shifts his view from the destructive nature of debt in the early years of this century to the transformation of labor-based economies into capital-dominated systems that we start to gain a fresh insight into the crisis. Toussaint describes the critique of capitalist economics put forward by Jean-Marie Harribey in his 2013 book La Richesse, la valeur et l’inestimable [Wealth, Value and the Incalculable]. Harribey argues that both the role that capital plays in economic life and the way that role is understood have undergone transformation. Capital was once mainly put to productive uses in the real economy, with working-class people generating profits by producing goods for their employers to sell; several decades ago, this system was replaced by one grounded in ’the myth of the fecundity of capital’—the idea that capital can grow on its own. The belief that capital can grow without any accompanying actual productive activity ushered in an era of destructive behavior on the part of the banks: the excessive expansion of debt, the proliferation of highly risky off-balance Balance End of year statement of a company’s assets (what the company possesses) and liabilities (what it owes). In other words, the assets provide information about how the funds collected by the company have been used; and the liabilities, about the origins of those funds. -sheet transactions, shadow banking that operates outside regulatory supervision, and offshore banking that exists to protect some while denying transparency to all.

The fecundity of capital, abetted by these practices, was directed to achieving outsized Return on Equity Equity The capital put into an enterprise by the shareholders. Not to be confused with ’hard capital’ or ’unsecured debt’. (ROE) for the potential and actual holders of bank securities. It was as though the banking system decided to emulate the excessive risk-taking of start-up Silicon Valley companies which attracted capital through outsized promised returns. Put another way, banks discovered ’burn money,’ the illusory pre-crash currency. Since banks could rarely achieve high returns on equity through their traditional business model, they turned to financial engineering to generate better-than-expected ROE rates that were not sustainable. At Goldman Sachs and Morgan Stanley ROE rates reached 30 percent at the height of the debt-financed dot.com bubble, only to fall to 12 and 16 percent, respectively, after the Enron collapse. These institutions, and others like them, were then encouraged by the policies of the Federal Reserve FED
Federal Reserve Officially, Federal Reserve System, is the United States’ central bank created in 1913 by the ’Federal Reserve Act’, also called the ’Owen-Glass Act’, after a series of banking crises, particularly the ’Bank Panic’ of 1907.

FED – decentralized central bank : http://www.federalreserve.gov/ and the Bush Administration’s Treasury Department to again load their balance sheets with debt. As a result, their ROEs climbed back to 30 percent before the 2007-08 collapse.

A sure way to continue the masquerade was to inflate balance sheets through massive infusions of debt (banks recognize loans outstanding as assets) in support of a housing bubble. When the housing bubble started to burst, banks continued to inflate their balance sheets through trading Market activities
trading Buying and selling of financial instruments such as shares, futures, derivatives, options, and warrants conducted in the hope of making a short-term profit. activities. The demise of the Glass—Steagall Act in 1999 shifted the banking paradigm from generating profit Profit The positive gain yielded from a company’s activity. Net profit is profit after tax. Distributable profit is the part of the net profit which can be distributed to the shareholders. (with risk) on the spread between the cost of funds and the interest Interest An amount paid in remuneration of an investment or received by a lender. Interest is calculated on the amount of the capital invested or borrowed, the duration of the operation and the rate that has been set. generated by lending those funds, to generating profit from securities trading. Through high-speed algorithmic trading, the banks found a new and far more remunerative source of earnings than pesky, small spreads. With the banks’ newfound ability to generate profits from equity alone, the banking sector became more attractive to investors. The banks then moved aggressively into the new world of leveraged speculation, setting the stage for disaster.

Toussaint indicts the banks for their financial engineering as well as their unethical and illegal business practices. He cites Deutsche Bank’s concealment of $12 billion in losses, HSBC’s money laundering scheme involving drug money worth $881 million (which led to the filing of criminal charges by the US authorities), and the facilitation of large-scale tax evasion by both Credit Suisse and UBS. More discussion of these incidents would have added to the book’s appeal. Toussaint posits that governments are complicit in these activities, for ’although the US government let Lehman Brothers go to the wall in September 2008, no other bank has been closed or broken up and no director has been given a custodial sentence’ (p. 167).

The litany of banking transgressions chronicled by Toussaint is bound to induce anger. Toussaint argues that while the financial crisis has begun to plant the seeds for more progressive government policies, the righteous indignation of the citizenry who have lost their homes, their jobs, and their financial security has not yet resulted in significant change. He recognizes the need to mete out justice to those responsible for the crisis, but warns that any semblance of justice in the measures that have been taken so far is illusory: ’the “heavy” fines reported in the media did not prevent the bankers popping corks to celebrate the profits they had made abusing millions of families’ (p. 173).

A cynical reading of this book could induce a yawn and the dismissive observation that it has all been said before. But what separates Bankocracy from many other works on the subject is that the author does not simply dwell on the past; he provides solutions. Toussaint is very clear in his assertion that the financial system has barely moved beyond the very conditions that created the meltdown. ’Banks have by no means cleaned up their activities and have barely reduced their use of leverage,’ he states (p. 253), before identifying several ’bubbles in preparation,’ including the corporate bond Bond A bond is a stake in a debt issued by a company or governmental body. The holder of the bond, the creditor, is entitled to interest and reimbursement of the principal. If the company is listed, the holder can also sell the bond on a stock-exchange. bubble, the commodities Commodities The goods exchanged on the commodities market, traditionally raw materials such as metals and fuels, and cereals. bubble, and another property speculation bubble.

In his final chapter, Toussaint offers a long list of steps that could eliminate the risk of future crises, starting with the familiar calls to break up the big banks, reinstate the Glass—Steagall Act separating commercial banking from investment banking, prohibit exotic derivatives Derivatives A family of financial products that includes mainly options, futures, swaps and their combinations, all related to other assets (shares, bonds, raw materials and commodities, interest rates, indices, etc.) from which they are by nature inseparable—options on shares, futures contracts on an index, etc. Their value depends on and is derived from (thus the name) that of these other assets. There are derivatives involving a firm commitment (currency futures, interest-rate or exchange swaps) and derivatives involving a conditional commitment (options, warrants, etc.). and reckless speculation, and impose high compliance controls. These are hardly radical solutions (the author himself calls them superficial), but the mere fact that they remain undone indicates that the banks have drifted so far from operating for the public good that Toussaint’s vision of socializing ’the banking and insurance sectors [placing] them under citizens’ control’ (p.266) may be the best solution of all.

Source: Review of Political Economy