Rabble Rouser's Forum

Part 1: The Makings of an Economic Backlash

“The Backlash and Blowback of America” is a series of investigative articles that examine America’s current economic and foreign policy issues. I began writing this as a short commentary, but as I began to read, think, investigate and dig deeper, I quickly realized how complicated this story truly is. Then I asked myself how did we get into this sorry mess and why didn't we see it coming? While the “how” has been somewhat difficult to pinpoint, I can say, unequivocally that “yes” we did see it coming and surprisingly, we did little to prevent it.

It would be pretty easy to pin everything on outgoing President Bush and his Neocons, but there are a significant number of interrelated factors that reach as far back as the 1970s that led to today's economic crisis. At the center of this story are complex interconnections of our economic and foreign policies that are associated with rising debt, weakening production and investment, stagnant wages, unemployment, growing class inequality, global financial instability, and spreading militarism and imperialism. And while this fallout is a direct result of rightwing ideology with Wall Street hijacking our economy, both Republicans and Democrats became enablers of the kind of deregulation that has finally come home to roost in this crisis.

As I stated earlier, we ordinary citizens are also culpable in this crisis. Americans have steadily saved less and consumed more, with a savings rate that has approached zero in the 2000s. When Congress gave the credit card industry carte blanche, we went along, gobbling them up, getting hooked on them, buying on high interest rates, pushing ourselves further into debt. Then there are folks who bought houses they couldn't afford, either as first-time homebuyers or as part of a “get rich quick” scheme that consumed their way into unreasonable levels of debt. Alongside that, of course, countless businesses did the same thing, with banks and other lenders passing out money, with little regard for risk. Yes, there's greed on Wall Street, but there's also greed on Main Street too.

Finally, we're responsible for our total lack of participation in the voting process. Voting is a fundamental right that too many in our nation have taken for granted. We don't vote as often as we should, and when we do, we don't keep tabs on our elected officials, nor do we pay attention to the legislative, regulatory or judicial branches of our government, so yes, we're complicit in this financial mess. The credit bubble has finally burst, as inevitably it would, and now we're experiencing a “backlash.”

Defined, a backlash is an antagonistic reaction to a specific political or social trend, development or event. Economists have been warning for years that Bush’s tax cuts coupled with increased spending (the Iraq and Afghanistan Wars, consumer spending) would come back and bite us all in the “you-know-what.” This backlash has a classic double-edged sword. First, it’s comprised of a clear rejection of our politics and poor fiscal judgment and as we go forward, politicians and regulators need to address our problems, reform the system and enhance stability. Second, there's a “blame game” that’s going around. Democrats blame Republicans. Republicans blame Bush. Americans blame the government. Government is blaming capitalists. The list goes on and on. So what’s the point? We need to investigate what went wrong, confront the people and mechanisms that are currently in place, and construct a new financial infrastructure that assures that this will never happen again. This should be a top priority.

To make matters worse, there're no easy questions or answers to this mess. This economic crisis is so complex, so Machiavellian with its clever cast of characters and crappy policies one wonders, what was the underlying pathology of these people we entrusted to govern our country? Relative to countless Americans, they have no personal stake in the eventual outcome of their decisions, yet in a very real way their actions directly affect our lives no matter how good some of their intentions may be. This thing is so convoluted that right now there are already scores of analysts and economists still trying to unravel this mess, with a newly elected President who fought so hard for what now appears to be an impossible job. But what's clear is that we're currently experiencing a backlash from some very bad decisions that has perpetuated an erosion of trust in our elected leaders, our financial system and our standing in the global community.

There has been much fear mongering and confusion in Washington as this economic crisis has built to a boil. Faced with a seemingly intractable economic crisis and a Senate mired in the kind of partisan squabbling that we all recognize and hate, few of us really expect the Obama Administration to fix the country in its first few weeks. However, we do expect practical solutions in solving this crisis. So, instead of spending time scaring us with ultimatums, they should devote more time shedding light on some key facts. We need to know the truth and we should demand the truth, but what exactly is the truth?

When reading various newspaper accounts and internet reports, people have provided different ideas and viewpoints and have applied contrasting approaches in reporting these truths. For example, some have concentrated on the complex aspects of this economic downturn littered with acronyms (SIVs, CBOs, CDOs, ABCPs and LTCMs), statistics and graphs, while others debate the legal ramifications and lack of government oversight. Many are blaming the Federal Reserve System and Alan Greenspan, while others point fingers along party lines and of course, everyone blames Wall Street. The way I see it, everyone is accountable.

As I poured over some of these reports, I've also come across some extreme “theories.” For example, poor, uneducated, irresponsible people caused the subprime crisis who would otherwise be considered too risky for a conventional loan and therefore should have known better. Besides, why should we be stuck paying “their” bills? (See “Who is to Blame for the Subprime Mortgage Mess” and “Subprime Suspects.”) Another example is that the unions are responsible for the downfall of the auto industry, which I find utterly ludicrous. (See “Conservative Politicians Misleadingly Blame Labor Unions For Detroit's Woes” and “Unions Aren't To Blame For Automakers' Woes.”) No matter how implausible it may be, it's so much easier to blame people you never liked in the first place to justify a political position. These are not truths, merely a smokescreen to truths.

Yet in researching this article, what I didn't find was a detailed historical narrative that explains how we got where we actually are today, without the fancy Wall Street lingo. Since I'm neither an analyst nor an economist, I've decided to write an article that provides an historical context, which I hope brings readers closer to understanding why and how this economic crisis has happened. If the legendary Mother Jones was right when she said, “Sit down and read. Educate yourself for the coming conflicts,” then we can no longer rely on our politicians or the media for truths, we must instead educate ourselves for the coming struggle. So I'm optimistic this series will help point readers in the right direction and closer to the fundamental truths and answers we all seek.

As always, your comments are welcome.

HISTORY IN AMERICA ALWAYS SEEMS TO REPEAT ITSELF. Actually, you'd think we'd know better from some of the painful lessons of our past. When the Great Depression successfully discredited free-market ideology and radical laissez-faire doctrines of the Calvin Coolidge era (“The business of America is business”), it was such a colossal practical failure; no one could possibly argue with a straight face that free markets worked. Commercial banks got greedy. They had become too speculative because they were investing their clients' assets, and buying new issues for resale to the public. They took on huge risks with the promise of even bigger rewards. They got sloppy. Banking objectives became blurred.

We generally ignore the economics of the 1920s because it’s been often overshadowed by the Stock Market Crash of 1929. But up until 1929, the 1920s were a period of vigorous, economic growth. It was the "Roaring Twenties," the decade of bathtub gin, the model T, the first transatlantic flight and the movie, a period of great advance as the nation became urban and commercial. It marked the first truly modern decade. This included the rapid adoption of the automobile; growth of the suburbs; the expansion of electric utility networks; and the development of consumer appliances including new types of lighting and heating for homes and businesses. The early introduction of the radio helped to break up rural isolation, as did the expansion of local and long-distance telephone communications. During this period, America witnessed innovations in business organization and manufacturing technology.

The Federal Reserve System, created in 1913, first tested its powers and the United States crept into a dominant position in international trade and global business. The 1920s signaled an era of Republican leadership, nationalistic and fundamentalist movements, and changing social conventions. Electing Republican presidents who favored business expansion rather than regulation, the American public enjoyed unlimited prosperity. By both nineteenth and twentieth century standards, the 1920s experienced relatively rapid rates of real economic growth considered rapid by even today's standard. So when the Stock Market crashed in 1929, it was a terrible shock to everyone.

The economic downturn that followed was unique in its magnitude and its consequences affected the entire world. At the depth of the depression, one American worker in every four was out of a job. The great industrial slump continued throughout the 1930s, shaking society and the foundations of Western. For example, industrial stocks lost 80% of their value; approximately 11,000 U.S. banks failed, and about $2 billion in deposits evaporated. The gross national product (GNP), which for years had grown at an average annual rate of 3.5%, declined at one point at a rate of over 10% annually. President Hoover opposed government intervention but initiated one major action, the Reconstruction Finance Corporation (1932) to lend money to ailing corporations, which proved inadequate. Hoover’s inability to handle this crisis led to his defeat in his re-election bid to President Roosevelt. Roosevelt would later be credited for his New Deal initiatives and bringing the country out of the Depression, thereby cementing Democratic control of both Congress and the White House for almost two decades.

One of the crown jewels of the New Deal, the Glass-Steagall Act (officially known as the Banking Act of 1933), forbade banks from getting into the investment business. Roosevelt also established the Federal Deposit Insurance Company (FDIC) to protect bank deposits granting the Federal Reserve System control over setting interest rates. The entire point was to protect deposits and stop banks from speculating with other people's money. Strictly speaking, the Glass-Steagall Act was a huge success and it restored confidence in America's banking system for well over six decades. That is, until banks such as Citigroup invested a lot of time, money and effort working behind-the-scenes to repeal not only this Act, but other regulatory laws as well.

While Roosevelt initiated numerous stimulus packages through New Deal programs, the truth of the matter is that World War II was a key factor that led the United States out of the Depression. During the 1940s, the economy rebounded from depression. Big business recovered its tarnished public reputation. Wages and earnings reached new heights and powerful new sectors of the economy developed, especially in the production of consumer goods and military hardware. Close cooperation with government (and in some instances outright government control) and labor unions produced a stable domestic climate for business, while business and government worked together to develop and build markets overseas.

The United States enjoyed a booming economy that helped shape the blissful retrospective view of the 1950s. A rebuilding Europe was hungry for American goods, fueling the consumer-oriented sector of the American economy. Conveniences that had been toys for the upper classes such as refrigerators, range-top ovens, automobiles and televisions were becoming middle-class staples. Homes became affordable to many apartment dwellers for the first time, and people were buying new technology such as the transistor radio and color television. People also began to work in white-collar jobs more than ever and the baby boom, coupled with the GI Bill, laid the groundwork for newly developed communities and suburbs. Other economic activities included buying on credit (the first modern credit card was produced), playing the stock market and taking loans from banks.

And just to make sure that there was no question that the Federal Reserve Board, the regulator of U.S. banks, stayed on its toes, Congress decided to further regulate the banking sector. In an effort to prevent financial conglomerates from amassing too much power, Congress agreed that it was not good banking practice to bear the high risks undertaken in underwriting insurance. Thus, as an extension of the Glass-Steagall Act, the Bank Holding Company Act in 1956 further separated financial activities by creating a wall between insurance and banking. In other words, even though banks could sell insurance and insurance products, underwriting insurance was forbidden.

During the 1960s, the United States experienced its longest uninterrupted period of economic expansion in history, with aerospace, housing and computer technology leading the way. Big business dominated the domestic economy during this time, and the five largest industrial corporations accounted for over 12% of all assets in manufacturing. America's overseas investment increased. So did minimum wage, unemployment compensation, social security benefits, emergency relief for feed grain farmers, area redevelopment, vocational training for displaced workers, and federal funding for home building and slum eradication.

I feel it prudent to point out that all segments of the population did not equally share the economic boom that America experienced from the 1940s to the end of the 1960s. African Americans were subject to Jim Crow and consequently did not fully enjoy the benefits of economic growth. Why? They faced discrimination on unprecedented levels: employment, education and housing, with little to no access to business loans and mortgages. Many Latinos and Asians experienced a similar fate, with Native Americans not even part of the equation. The passing of Brown v. Board of Education and the Civil Rights Legislation didn't guarantee that people of color would automatically reap any real economic benefits. Even today, while minorities overall are doing better economically, there still remains striking gaps in income, employment and wealth that continues to distinguish our economic reality.

Going forward, during the 1970s the country suffered economic woes brought on by the costs of the Great Society and the Vietnam War. Price increases for energy (the oil shocks of 1973 and 1979) conjured high inflation throughout much of the world for the rest of the decade. As a result, government leaders concentrated more on controlling inflation than on combating recession by limiting spending, resisting tax cuts, and reigning in growth in the money supply.

Scholars and journalists often give the Nixon presidency, Watergate aside, a fairly positive review. However, more often than not they’ve painted a vivid picture of the intellectual confusion that laid behind President Nixon's major economic policy initiatives. In fact, the term “Nixon Shock” is often used to describe the different policy measures undertaken during his presidency.

Beginning in 1971, Nixon's domestic problem was the economy. In order to reduce inflation, he tried to control federal spending, but his budget proposals contained deficits of several billion dollars, the largest in American history up to that time. Nixon then announced his “New Economic Policy” in response to continuing inflation, increasing unemployment and a deteriorating trade deficit. This also included an 8% devaluation of the dollar, new surcharges on imports, and unprecedented peacetime controls on wages and prices. These policies produced temporary improvements in the economy by the end of 1972, but once price and wage controls were lifted, inflation returned, reaching 8.8% in 1973 and 12.2% in 1974.

When President Carter came into office, he tried to combat economic weakness and unemployment by increasing government spending, establishing voluntary wage and price guidelines to control inflation. These were largely unsuccessful. A perhaps more successful but less dramatic attack on inflation involved the deregulation of numerous industries, including airlines, trucking, and railroads.

Carter enacted a number of initiatives. He created the Community Reinvestment Act (CRA) in 1977, to prevent “redlining.” A phrase coined by Chicago community activists in the 1960s, redlining is the practice of denying or increasing the cost of services such as banking, insurance, real estate, or limited access to jobs and health care to residents in often economically and racially determined areas.

It should be noted that there was a time when immigrants, such as the Germans, Irish, Italians and Jews faced similar injustice. However, as these immigrants assimilated and became accepted as fellow “white” Americans; ethnic groups such as the Chinese, Japanese, Koreans, Filipinos, Indians and Latinos as well as African Americans were for centuries not regarded by most white Americans as equal citizens. So no matter what they may have achieved economically, it was difficult for them to assimilate into America’s “melting pot.”

By the 1960s, the areas most frequently discriminated against were African American inner city neighborhoods. Banks would open up branches in those neighborhoods and eagerly accept their deposits, but would not be so inclined to provide the mortgages or loans needed to sustain and expand those communities. Carter understood that something needed to be done. Therefore, the Act was created to encourage banks to meet the needs of all segments of the community, including low- and moderate-income neighborhoods, regardless of ethnic origin. Ironically, the Community Reinvestment Act would be erroneously tied into the subprime lending fiasco we’re experiencing today.

The Carter Administration also initiated the Depository Institutions Deregulation and Monetary Control Act (DIDMCA) in 1980. This Act was aimed at eliminating many of the distinctions among different types of depository institutions, including the removal of the interest rate ceiling on deposit accounts. The Savings and Loans' authority to make acquisitions, development and construction loans (ADC) was expanded and the deposit insurance limit was raised to $100,000. Support for deregulation in industries as well as banks would continue to escalate beyond the Carter Administration. Marred by the Iran hostage crisis in Carter’s final year in office, he would lose his re-election bid in 1980 to President Reagan.

A recession marked the early years of Reagan's presidency, hitting almost all segments of the population. The unemployment rate rose above 10% and almost one-third of America's industrial plants lay idle. Farmers, who borrowed heavily to buy land and increase production, suffered hard times due to crop shortages. Then the rise in oil prices raised farm costs and a worldwide economic slump in 1980 reduced the demand for farm products. As gains in U.S. productivity slowed, economic rivals such as Germany and Japan won a greater share of world trade. It was during this time that American consumption of goods produced by other countries rose sharply.

Reagan's domestic program was rooted in his belief that the nation would prosper if the power of the private economic sector was unleashed. A proponent of "supply side" economics, a theory which held that a greater supply of goods and services is the swiftest road to economic growth, Reagan sought large tax cuts to encourage greater consumer spending, saving and investment, thus the birth of “Reaganomics.” Despite only a slim Republican majority in the Senate and a House controlled by Democrats, Reagan succeeded during his first year in office by enacting the major components of his economic program. The centerpiece was the Economic Recovery Tax Act of 1981 (also known as the “Kemp-Roth Tax Cut”), which provided 25% tax cut for individuals to be phased in over three years.

The deep recession throughout 1982, combined with falling oil prices, had one important benefit: it curbed the runaway inflation that had started during the Carter years. By early 1984, the economy rebounded and the United States entered one of the longest periods of sustained economic growth since World War II. Consumer spending increased in response to the federal tax cut, the gross national product (GNP) grew substantially, and the annual inflation rate remained low, creating more than 13 million new jobs.

Reagan eased or eliminated price controls on oil and natural gas, cable TV, long-distance telephone service, interstate bus service, and relaxed controls on bank interest rates. Banks were allowed to invest in a somewhat broader set of assets and the scope of the antitrust laws was reduced, which severely weakened the Glass-Steagall Act.

Throughout the 1980s, political conservatism in federal enforcement complemented the Supreme Court's doctrine of nonintervention. The Reagan Administration reduced the budgets of the Federal Trade Commission (FTC) and the Department of Justice, leaving them with limited resources for enforcement. For example, mergers of companies into conglomerates were looked on favorably, with the years 1984 and 1985 producing the greatest increase in corporate acquisitions in the nation's history. Even more significant was that the Federal Reserve allowed large bank holding companies to handle the underwriting of mortgage-backed securities. Sometimes you don't have to change laws outright to get what you want; you simply circumvent them by creating an end-run around them.

Steadfast in his commitment to lower taxes, Reagan also signed the most sweeping federal tax-reform measure in 75 years during his second term, the Tax Reform Act of 1986. This measure, which had widespread Democratic as well as Republican support, lowered income tax rates, and simplified tax brackets and closed loopholes. This was an important step toward taxing low-income Americans more equitably, yet serious problems remained.

It was during the early 1980s when the Savings & Loans (S&L) crisis embarked on the horizon. There are two parts to this story: The first part involves the events that caused the S&L problem and the second part is events that helped push it over the edge.

S&Ls (also known as “thrifts”) differ from commercial banks in that they are specialized banks that use low-interest, federally insured deposits in savings accounts to fund mortgages. During the 1980s, the popularity of money market accounts reduced the attractiveness of savings accounts, so the S&Ls asked Congress to remove these restrictions. This was achieved with the passing of the Garn-St. Germain Depository Institutions Act in 1982. This Act allowed S&Ls to raise interest rates on deposits, make commercial and consumer loans, and removed restrictions on loan-to-value ratios. For the first time, the government approved measures intended to increase S&Ls profits as opposed to promoting housing and homeownership. At the same time, the Federal Home Loan Bank Board (FHLBB) regulatory staff was reduced thanks to budget cuts, so no one was watching the store while S&Ls went overboard.

By 1983, it was clear that S&Ls weren't cutting it under these new regulations, and as a result, were going bankrupt. To compound the situation further, two major banking scandals broke out during the decade. During this time, a wave of mergers and acquisitions ensued as the weakest companies fell prey to bigger companies. Meanwhile the investment bank Drexel Burnham Lambert, which had virtually invented the modern junk bond market, was propelled into the spotlight. This and the market's dizzying rise prompted the U.S. Securities and Exchange Commission (SEC) and the Southern District of New York in 1985 to begin conducting separate investigations on insider trading.

Although insider trading was illegal, laws prohibiting it were rarely enforced until Ivan Boesky was prosecuted. Boesky, who was an arbitrageur, amassed a fortune of over $200 million by betting on corporate takeovers. These stock acquisitions were more often times brazen, with massive purchases occurring only a few days before a corporation announced a takeover. Boesky cooperated with the SEC and informed on financier Michael Milken of Drexel Burnham Lambert, who was then hailed king of the junk bonds and an enabler of corporate raiders. In the end, both men were convicted, fined, received prison sentences and banned from the securities industry for life. The outstanding Drexel Burnham Lambert high-yield bonds, which had been largely invested by many S&L institutions, helped drive the S&L crisis to the brink, while simultaneously tainting the junk-bond name. Eventually, Drexel Burnham Lambert went out of business.

A U.S. House committee concluded that over three-quarters of all S&L insolvencies appeared to be linked to serious misconduct by senior insiders or outsiders. Neil and Jeb Bush, Charles Keating and the “Keating Five” come to mind, whose involvement was either largely ignored (as in the Bushes), or was investigated (the Keating Five) only to be reprimanded for "poor judgment. Charles Keating, however, was convicted in 1991 of 17 counts of fraud, racketeering, and conspiracy and was given the maximum 10-year prison sentence. He served only 4-1/2 years in prison.

In the meantime, the crisis mushroomed and as S&Ls went under, state and federal insurance were running out of money to refund depositors. However, a number of S&Ls remained open and continued to make bad loans while the losses kept mounting.

Finally, on October 19, 1987, a date that subsequently became known as "Black Monday," the Dow Jones Industrial Average plummeted 508 points, losing 22.6% of its total value. The S&P 500 dropped 20.4%, falling from 282.7 to 225.06. This was the greatest loss Wall Street had ever suffered on a single day. Unlike what happened in 1929, however, the market rallied immediately after the crash and by September 1989, the market regained all of its value. In fact, the worst economic losses were isolated and actually occurred on Wall Street itself, with 15,000 jobs lost in the financial industry. But the real question, “What caused it?” remains unanswered and a debate to its cause continues to this day. There is, however, one thing the 1987 crash ultimately accomplished, and that is it taught politicians that markets heed their words and actions carefully and react immediately when threatened. Thus, the crash initiated a new era of market discipline on bad economic policy.

The national debt nearly tripled and an alarming percentage of growth was based on deficit spending. Furthermore, virtually all the growth in national wealth took place in the highest income group. While the rich got richer and free trade increased wealth, only a small number of people benefited. Farmers continued to suffer and serious droughts in 1986 and 1988 compounded their distress. Most middle-class incomes were barely higher than a decade before and would remain stagnant for the next 20 years, while benefits and social indicators drastically declined.

Many poor and middle-class families actually lost ground, as low- and semi-skilled jobs were eliminated while the chronically poor failed to benefit as the economy improved. Moreover, our ethics took a turn for the worst: private gain over public obligation, special interests over the common good and, wealth and fame over work and family. Thus, the tax cuts and economic growth during the 1980s ushered in a new gilded age of greed, selfishness, irresponsibility and excess that would eventually leave behind a profound fiscal policy failure and imbalance in our economy.

# # # # # #

Next Week: Part 2. Presidents Bush (I) and Clinton: The Road to Free Trade and Deregulation

Subscribe in a reader (see additional alternatives in the right-hand column)

Rabble Rouser's Forum

Saturday, March 7, 2009

Black & Brown Are the New Colors of Today's Politics

Sunday, March 1, 2009

Welcome to the new and approved edition of RABBLE ROUSER’S FORUM.

The Backlash and Blowback of America

Subscribe to Rabble Rouser

About Rabble Rouser's Forum

Subscribe to via email

Gabrielle is EVERYWHERE!

RABBLE ROUSER in the Clouds

Blog Archive

Barack Obama 44th president of the U.S.A.

Thoughts on the World

Not So Mainstream Media

Some of the Best Blogs

Eclectic Blogs

RR Reciprocal Links

Blog Rankings

About Me

Contact Us:

FAIR USE NOTICE: