The trillion dollar crash

Issue: 121

“History books will document that the global economy experienced a sudden stop after 15 September. The manner in which Lehman Brothers failed disrupted the trust that underpins the smooth functioning of market economies. As a result, virtually every indicator of economic and financial relationships exhibits characteristics of cardiac arrest”.1

These words, from one of the Financial Times’s guest columnists, could have come from virtually any of the mainstream economic commentators witnessing the chaos afflicting their system. Things that seemed an outside possibility three months ago, when we sent the previous issue of this journal to press, had become a reality by the time it came back. The credit crunch had turned into possibly the biggest crisis the global financial system had ever seen, leading governments to pour in more than a trillion dollars and partially nationalise banks across Europe and the US to prevent their collapse. But even that failed to halt the crisis, as was shown dramatically when the Bush administration “all but nationalised Citibank, the world’s largest bank” in the last week in November.2

By that stage the crisis had spread to what mainstream commentators call the “real economy”. There was “a week of living perilously” as “panic seized the markets”.3 The plague of insolvency sweeping the City had now spread to the High Street, with the demise of Woolworths and MFI, and to the historic core of US manufacturing as car sales slumped. Chrysler lost millions by the day, General Motors said it needed $4 billion immediately to avoid bankruptcy and Ford joined them in asking for a $34 billion government handout. The toll of sackings in every sector began to compare with the haemorrhaging of jobs in the crisis of the early 1980s. And the pain was felt not merely on both sides of the Atlantic, but on both sides of the Pacific too, with thousands of factory closures in south east China and the spread of recession to Japan.

The crisis has produced something else previously unimaginable to most commentators—a phase change in the approach of those who try to manage the system. Until August their approach was still that often described as “neoliberalism”—meaning a revamped version of the laissez faire market “liberalism” that preceded the turn to state intervention three quarters of a century ago. It was always somewhat misleading as a description of capitalist practice, as opposed to capitalist theory. States have intervened to help capitalists deal with economic crises or foreign competition throughout the past three decades. For instance, the US state bailed out Chrysler in 1979-80, the saving and loan (S&L) associations in the mid-1980s and the Long Term Capital Management hedge fund in 1998. But these were treated as exceptions. Now not only have multibillion bailouts become the norm but so too has partial nationalisation. The theory has been abandoned—for the time being at least.

The collapse of Lehman Brothers was decisive. Allowing it to fail was meant to signal that market discipline could restore the health of the system by purging financial institutions holding “toxic assets”. Instead it spread the problems of one part of the system to others thousands of miles away, causing huge dents in the balance sheets of banks in Britain, Germany, Belgium, Iceland and the Netherlands as well as the US, and bringing the whole financial system close to collapse. The only way for states to keep the system going was to return to the methods of wholesale state intervention—state capitalism—supposedly jettisoned in the aftermath of the recession of the mid-1970s. “Friedmanism” and “Hayekism” got their marching orders as Keynesianism came back with a vengeance.

Such a phase change will have political repercussions. Even more than a theory of economic management, neoliberalism has been an ideological prop for the system, translated into common sense aphorisms such as “No one owes you a living”, “You have to stand on your own feet” or “State intervention never works”. It served to absolve those who ran the state from responsibility for the harm done to people’s lives by capitalism. Now they have very visibly intervened to save the bankers and will find it hard to avoid demands to intervene to do something about the devastation of jobs and homes caused by the crisis.


1: Mohamed El-Erian, Financial Times, 4 December 2008.

2: Philip Stephens, Financial Times, 28 November 2008.

3: Martin Wolf, Financial Times, 23 November 2008.