No one wants to utter the word "depression." But the truth of the matter is that the American economy may be entering a state of free fall. Every day brings more bad news about the sub-prime mortgage debacle, about home foreclosures, construction industry slowdowns, a credit drought for consumers and businesses, oil price shocks and the open-ended devaluation of the dollar. Where is it all leading?
Together with the debacle in Iraq and the political implosion of the Republican Party, this economic collapse could make the presidential election of 2008 a turning point in American political history. Conservatism first triumphed over New Deal liberalism thanks in part to the same deadly combination in the late 1970s: a lost war and an economic crisis. The Vietnam War plus stagflation and deindustrialization gave us Ronald Reagan. Now history is returning the favor, as the free-market conservative political order of the last generation faces a systemic crisis from which there is no easy escape.
Even the soberest economy watchers, pundits with doctorates -- whose dismal record in predicting anything tempts me not to mention this -- are prophesying dark times ahead. A depression, or a slump so deep it's not worth quibbling about the difference, appears to be on the way, if indeed it is not already underway.
For The Record
Los Angeles Times Sunday, December 16, 2007 Home Edition Opinion Part M Page 3 Editorial pages Desk 1 inches; 29 words Type of Material: Correction
U.S. economy: An article by Steve Fraser in the Dec. 9 Opinion section referred to a financial instrument as "security investment vehicles." The correct term is "structured investment vehicles."
Start with the confidence game being run out of Wall Street. The sub-prime mortgage crisis occupies newspaper front pages day after outrageous day. Certainly, these tales of greed and financial malfeasance are numbingly familiar. Yet precisely that sense of deja vu -- of Enron revisited, of an endless cascade of scandalous, irrational behavior affecting the central financial institutions of our world -- suggests just how dire things have become.
Once upon a time, all through the 19th century, financial panics -- often precipitating more widespread economic slumps -- were a commonly accepted, if dreaded, part of "normal" economic life. Then the crash of 1929, followed by the New Deal Keynesian regulatory state called into being to prevent its recurrence, made these cyclical extremes rare.
Beginning with the stock market crash of 1987, however (and followed by the collapse of the savings and loan industry at the end of the 1980s and the near-meltdown of Long Term Capital Management in 1998 that required an emergency, government-assisted bailout), financial panics have become ever more common again. Most notorious -- until now, that is -- were the dot-com implosion of 2000 and the Enronization that followed. Enron seems like only yesterday because, in fact, it was only yesterday, which strongly suggests that the financial sector is now out of control.
At least three factors lurk behind this new reality. Thanks to the Reagan counterrevolution, there is precious little left of the regulatory state -- the repeal of the Glass-Steagall Act separating investment from commercial banking is a prime example -- and what remains is effectively run by those who most need to be regulated. (Despite bitter complaints about it in the business community, the Sarbanes-Oxley Act, passed in the wake of the big corporate and accounting scandals of recent years in an effort to restore public confidence in the capital markets, has proved weak tea indeed, as the current financial meltdown indicates.)
More significantly, for at least the last quarter of a century the whole U.S. economic system has lived off the speculations generated by the financial sector -- sometimes given the acronym FIRE (for finance, insurance and real estate). It has grown exponentially while, in the country's industrial heartland in particular, much of the rest of the economy has withered away. FIRE carries enormous weight and the capacity to do great harm. Its growth, moreover, has fed a proliferation of financial activities and assets so complex and arcane that even their designers don't fully understand how they operate.
Today's Wall Street fabricators of avant-garde financial instruments are actually called "financial engineers." They got their training in "labs" much like Dr. Frankenstein's, located at Wharton, Princeton, Harvard and Berkeley. Each time one of their concoctions goes south, like the bewildering "security investment vehicles" that helped precipitate the mortgage industry collapse, they scratch their heads in bewilderment -- always making sure, of course, that they have financial life rafts handy, while investors, employees, suppliers and whole communities go down with the ship.
What makes Wall Street's latest crisis so portentous, however, is the way it is interacting with, and infecting, healthier parts of the economy. When the dot-com bubble burst, many innocents were hurt, not just denizens of the Street. Still, its effect turned out to be limited. Now, because of the sub-prime mortgage meltdown, Main Street is under the gun.