Tory prime minister Margaret Thatcher deregulated the London Stock Exchange 25 years ago last week—on a day pretentiously titled the “Big Bang”. Market speculation exploded.
This was just one of the milestones in the rapid expansion of the financial sector. Today the so-called “real economy” is dwarfed by chaotic markets in stocks, bonds and derivatives.
Hedge funds, banks and private equity firms trade ever more complex financial “instruments”.
These markets began to implode in 2007, triggering the current economic crisis.
Today there is a debate over how bankers have become so powerful—and how financial markets relate to the rest of the economy.
There is broad agreement that the financial system is “out of control”.
Even Vince Cable, the coalition government’s business secretary, wants the sector to be better regulated.
But defenders of capitalism have also tried to limit the fallout from the crisis by presenting finance as separate from the rest of the economy.
Barack Obama claimed to be a presidential candidate for “Main Street, not Wall Street”.
Labour leader Ed Miliband tried to distinguish between “predatory” and “productive” businesses.
In more radical circles there are calls for a “Tobin tax” or a “Robin Hood tax” on financial transactions.
Calls for alternative and complementary currencies are reaching a broader audience—as are more utopian ideas such as the technocratic “resource-based economy” of the Venus Project.
Many people look back to a time before capitalism was “taken over” by finance—but there is little consensus on when this took place.
What changed the system? Was it stock market deregulation in the 1980s? The breakdown of the Bretton Woods agreement in 1971? Or perhaps the end of the “gold standard” in 1931?
Chaos in the financial sector in fact reaches back much further than any of these dates. A panic on the Vienna stock exchange in 1873 precipitated two decades of the “Long Depression”.
The use of the word “bubble” to describe the financial boom-and-busts dynamic dates back to the frenzied speculation of the early 1700s.
So to trace the origins of modern finance, we have to go back to the origins of capitalism itself (see box).
As capitalist trade spread through Europe paper money appeared—initially as redeemable receipts for gold deposits.
In time it became possible for people withdraw receipts for gold they didn’t have, on the condition that they paid it back later with interest.
This system is called “fractional reserve banking”, since the bank only keeps a fraction in reserve of the value of the money it circulates.
And like the first stock exchanges, fractional reserve banking was a response to the needs of capitalism.
The growth of capitalism has always been predicated on its ability to create a thriving financial sector.
Yet banks, stock exchanges and other speculative merry-go-rounds do not create any wealth. Neither do the entrepreneurs and venture capitalists who approach them for funding.
The real wealth creators are workers—those whose labour in farms, factories and offices produces the goods and services that bosses sell.
Finance makes it easier for capitalists get their hands on this wealth.
But the profits it accrues come from wealth generated elsewhere. Finance is at once essential to capitalist production and parasitic upon it.
This causes problems when the system’s dependency on finance grows.
Karl Marx argued that this growing dependency was an inevitable feature of capitalism as a whole.
He showed that while individual capitalists may see their profits go up, the overall ratio of profits to investment tends to go down over time.
Competition drives down prices, so capitalists have to endlessly invest in more efficient technology to nose ahead of the competition.
This means they spend more paying back the costs of their investments and less on employing the workers who actually produce value.
Crises develop when capitalism becomes overburdened with the costs of old investments—what Marx called dead or “inorganic” labour.
Today many big companies are sitting on vast war-chests of accumulated profits, but structural problems in the economy mean that they cannot invest them profitably.
In the past, deep and destructive crises have cleared away the dead capital and freed up surviving capitalists to invest in new markets.
But no capitalist wants to be the one who loses everything to get the system going again. And today, many companies are so big that governments fear their collapse would drag down whole sections of the economy.
There are other ways for capitalists to slow the decline down and buy themselves time until the crisis hits.
One of the most obvious is to squeeze workers harder so that a greater share of wealth can go into the capitalists’ profits.
But this is risky. Workers might fight back or get so worn down they can no longer do the job properly and profitably.
This is something banks can help with. The expansion of credit cards, sub-prime mortgages and loans has made it possible to hold down wages, sell off social housing and axe student grants.
Companies have also relied more directly on loans and financial activities to make up for the declining profitability of their primary activities.
Car manufacturer General Motors, for example, owns GM Financial, a specialist financial services arm worth $3.5 billion.
By 2007 the amount of “toxic” debt based on investments of dubious value was far too much to ever be paid back. This triggered the “credit crunch” and subsequent global crisis.
But this debt had been accumulated in response to attempts to maintain the profitability of capitalism as a whole.
Neoliberal financialisation triggered the crisis. But its growth had always been an effect, not a cause, of the underlying problems that drive capitalism to crisis.
This is why we can’t just get rid of the bankers, much less “hold them to account”. We have to tear the whole capitalist system up by its roots.
Reformist politicians argue that finance is separate from production because it allows them to promise they can solve the crisis without overthrowing capitalism.
Alternative economic models can be appealing. But without an understanding of how the banking system grew out of capitalism, those advocating them lack a coherent strategy for bringing about their utopia.
The idea of a conflict between “international finance capitalism” and a more productive “national” capitalism has been used to encourage racist scapegoating. The worst case of this was European antisemitism.
The problems with capitalism start in the sphere of production—in workplaces where we create wealth and the bosses take it from us.
Only then can we grasp the potential for workers to reclaim that wealth by challenging the system at its base.
As the revolutionary Rosa Luxemburg declared during the German Revolution of 1918-9, “Where the chains of capitalism are forged, there they must be broken.”
Finance is as old as capitalism
The Royal Exchange that prefigured the London Stock Exchange opened in 1571. It was a response to the demands of a changing society.
New capitalist methods of agriculture and manufacturing seemed to turn money into more money. The new methods of production promised unlimited expansion—and unlimited wealth for those able to exploit that potential.
As long as they could find money to invest in the necessary premises and tools, capitalists could exploit as many workers as they wanted.
And they could invest the wealth generated by those workers into expanding their businesses.
The revolutionary socialist Karl Marx described this drive to accumulate and expand as one of the “laws of motion” of capitalism.
One of its consequences was a constant thirst for new sources of funding and a new type of banking that went beyond straightforward moneylending.
The stock exchange answered the needs of aspiring capitalists who saw opportunities to make a profit.
It was a place to raise money for ventures by selling shares in their hypothetical future profits.
Speculators could then profit by trading in these shares as expectations of the “real” profits went up and down.
In 1720 the South Sea Scheme saw an early international crisis brought on by financial speculation.