Ten years ago this month the whole banking system almost collapsed—and shattered politicians’ mantra that capitalism produces improvements for all.
Lehman Brothers, the world’s fourth largest investment bank, filed for bankruptcy on 15 September 2008. Right wing pundits tried to claim it showed the system was working by punishing bosses who had made bad business decisions. Politicians and the bankers and bosses who run the world economy stared into the abyss.
Within a few weeks, then US president George W Bush predicted, “This sucker could go down”.
Governments soon started using all means necessary to bail out those responsible.
The bosses of Lehman Brothers were crooks who used “aggressive accounting” to hide the scale of their debt problems. But the bank’s fall wasn’t just down to greedy or short-sighted managers.
In May 2008 Alan Greenspan had declared, “The worst is over in the financial crisis or will be very soon”. Greenspan was former chair of the US Federal Reserve central bank had been at the forefront of championing free market reforms since the 1980s.
After Lehman Brothers’ collapse he testified that he was “very distressed” that he had “found a flaw” in his free market ideology.
Lehman Brothers had grown by being at the epicentre of a financial boom based on gambling with debts.
Signs of trouble had begun to show in the “subprime mortgage” crisis in 2007.
Banks borrowed large amounts of money on the international money markets. They used this cash to finance “subprime mortgages” for working class, poor and black people who had no hope of paying off the debts.
After being sold to poor people, the individual mortgages wouldn’t stay with the bank that had made the initial loan. Thousands of them were bundled together in a process known as “securitisation”.
These bundles of mortgages were turned into financial instruments with fancy names, such as “collateralised debt obligations” and “mortgage-backed securities”. By selling on these complex packages to investors, banks had found a way of creating money in the short-term to invest in more long-term mortgages.
This was big business for the banks, which earned a fee for every mortgage they sold on. And by the beginning of the credit crisis in 2007, mortgage bonds had ballooned into a £6.8 trillion market.
The troubles in the subprime mortgage market were the symptoms of a much bigger financial bubble that was bursting.
Credit allows capitalism seemingly to grow exponentially. But when crisis comes, increased reliance on credit means it hits harder.
The financial markets let capitalists get their hands on money they need for long-term investments that they haven’t made from their own profits. Capitalists do this by issuing bonds—giant IOUs—with the promise of payment from future profits.
Lehman Brothers was a middle man in the world banking casino. It acted as a clearing house in the bond market where hundreds of thousands of these financial instruments were bought and sold by bankers and investors.
The other bankers relied on Lehman Brothers to let them know who owed what to whom or what institutions were exposed to what risk. When it went bust, the whole system began to grind to a halt. And this meant that banks and investors no longer knew what individual banks were likely to run into trouble and need a bailout next.
RBS in Britain—the bank with the biggest balance sheet in the world—was within hours of collapsing.
Writing 150 years before the credit crunch of 2007, the revolutionary Karl Marx described how banking bubbles can grow and burst.
He explained that capitalism always goes through periods of boom and bust. When the system goes bust, swathes of capital are destroyed—bringing down bosses’ financial institutions with it.
Governments that had trumpeted the miracles of the free market stepped in to save some of these institutions. Bush and New Labour were forced to oversee some of the biggest nationalisations in world history and handed over billions of pounds in bailouts to the banks.
And central banks slashed interested rates—the cost of borrowing—and began a process known as Quantitative Easing (QE). QE pumped more credit into the economy by central banks putting more money into the economy through the banks as part of their bailouts.
This only solved the problem in the short term.
The financial sector’s profits are based on productive capital. This means that the limits of growth of capitalism are based on what’s going on in the real economy. And in the run-up to the banking collapse, the real economy was experiencing a long-term crisis of profitability.
Because of problems in the real economy, capitalists invested their money into financial markets.
In the short-term, this provided bankers and bosses with areas to make more money. But the divergence between value in the real economy and the expansion of the banking sector meant the bubble eventually burst.
A similar process is happening in the global economy today. The US’s Dow Jones shares index has increased by 350 percent since 2008, but the economy has only grown around 15 percent.
The response of governments to the credit crunch fuelled another boom in cheap credit. And Barclays stepped in to buy the profitable bits of Lehman Brothers and continued many of the same practices.
The banking collapse shows the irrationality of a system based on maximising profit. The only solution to the ravages of capitalist crisis is a socialist economy that’s based on meeting social need not private profit.
Crisis ruined workers’ lives
While bankers were laid off with multimillion pound bonuses, millions of working class people’s lives were ruined.
Across the world living standards were hurled back—sometimes, as in Greece, to conditions of decades before.
Cuts in services meant hundreds of thousands of people globally die earlier than they would have done.
The Bush administration wasn’t able to save Lehman Brothers because the scale of the bailout threatened the US Federal Reserve central bank with bankruptcy.
But Western governments had already stumped up billions of pounds when the credit crunch began to hit in autumn of 2007.
They handed over to the financial sector £500 billion in public money in Britain and £700 billion in the US.
And to pay for the bailouts and restore profitability, politicians and bosses turned to the austerity policies that working class people are still suffering now.
Passing the cost to ordinary people
The banks are bigger than ever and still out of control.
The politicians and bankers learned nothing from the crash—except how to pass the cost on to ordinary people.
Far from reforming their system, or questioning its fundamental features, they have simply tried to restore it.
In doing so they have stored up the elements for future crises.
One of the features leading up to the crisis was the surge in debts. It’s harder today for ordinary people to borrow money, but company debts have risen.
Overall global debt has surged—last year it was 217 per cent of gross domestic product, nearly 40 percentage points higher than 2007.
After Lehman’s collapse there was much talk of breaking up banks that were “too big to fail” and controlled vast swathes of the financial market.
Today the US’s top five banks control 47 percent of banking assets, compared with 44 percent in 2007.
The top 1 percent of mutual funds—which pool money from speculators to buy stocks and bonds and other assets—have 45 percent of that sector’s assets.
A collapse of any one of these would be even more devastating than 2007.
A decade ago, writes commentator Gillian Tett, “investors discovered the world of ‘shadow banks’, when they learnt that a vast hidden ecosystem of opaque investment vehicles posed systemic risks. Regulators pledged to clamp down.
“So did the shadow banks shrink? Not quite.
“A conservative definition of the shadow bank sector suggests that it is now $45 trillion in size, controlling 13 percent of the world’s financial assets, up from $28 trillion in 2010.
“A regulatory clampdown on the banks has only pushed more activity to the shadows.”
The ultra-low interest rates and handouts that funnelled money to the banks and multinationals saved the system.
But that ammunition won’t be available next time.
There is a limit on how far interest rates that are only just above 0 percent can be cut further.
It will be very hard for politicians to demand another bailout for the rich.