How a Decade of Financial Crises Changed the World
706 pages; $35
Steve Bannon can date the start of the Trump “revolution.” When I interviewed him for CNN in May, in Rome, he explained that the origins of Trump’s victory could be found 10 years ago, in the financial crisis of 2008. “The implosion of those world capital markets has never really been sorted out,” he told me. “The fuse that was lit then that eventually brought the Trump revolution is the same thing that’s happened here in Italy.” (Italy had just held elections in which populist forces had won 50 per cent of the vote.) Adam Tooze would likely agree. An economic historian at Columbia University, he has written a detailed account of the financial shocks and their aftereffects, which, his subtitle asserts, “changed the world.”
If journalism is the first rough draft of history, Mr Tooze’s book is the second draft. A distinguished scholar with a deep grasp of financial markets, Tooze knows that it is a challenge to gain perspective on events when they have not yet played out. He points out that a 10-year-old history of the crash of 1929 would have been written in 1939, when most of its consequences were ongoing and unresolved. But still, he has persisted and produced an intelligent explanation of the mechanisms that produced the crisis and the response to it. We continue to live with the consequences of both today.
As is often the case with financial crashes, markets and experts alike turned out to have been focused on the wrong things, blind to the true problem that was metastasising. By 2007, many were warning about a dangerous fragility in the system. But they worried about America’s gargantuan government deficits and debt — which had exploded as a result of the Bush administration’s tax cuts and increased spending after 9/11. In particular, many fretted about the identity of America’s chief foreign creditor — the government of China. Yet it was not a Chinese sell-off of American debt that triggered the crash, but rather, as Mr Tooze writes, a problem “fully native to Western capitalism — a meltdown on Wall Street driven by toxic securitised subprime mortgages.”
Tooze calls it a problem in “Western capitalism” intentionally. It was not just an American problem. When it began, many saw it as such and dumped the blame on Washington.
In fact, this was nonsense. One of the great strengths of Mr Tooze’s book is to demonstrate the deeply intertwined nature of the European and American financial systems. In 2006, European banks generated a third of America’s riskiest privately issued mortgage-backed securities. By 2007, two-thirds of commercial paper issued was sponsored by a European financial entity. European regulators were as blind to the mounting problems as their American counterparts, which led to problems on a similar scale. “Between 2001 and 2006,” Mr Tooze writes, “Greece, Finland, Sweden, Belgium, Denmark, the UK, France, Ireland and Spain all experienced real estate booms more severe than those that energised the United States.”
But while the crisis may have been caused in both America and Europe, it was solved largely by Washington. Partly, this reflected the post-Cold War financial system, in which the dollar had become the hyperdominant global currency and, as a result, the Federal Reserve had truly become the world’s central bank. But Mr Tooze also convincingly shows that the European Central Bank mismanaged things from the start. The Fed acted aggressively and also in highly ingenious ways, becoming a guarantor of last resort to the battered balance sheets of American but also European banks. About half the liquidity support the Fed provided during the crisis went to European banks, he observes.
The rescue worked better than almost anyone imagined. It is worth recalling that none of the dangers confidently prophesied by legions of critics took place. There was no run on the dollar or American treasuries, no hyperinflation, no double-dip recession, no China crash. American banks stabilised and in fact prospered, households began saving again, growth returned slowly but surely.
But therein lies the unique feature of the crash of 2008. Unlike that of 1929, it was not followed by a Great Depression. It was not so much the crisis as the rescue and its economic, political and social consequences that mattered most. On the left, the entire episode discredited the market-friendly policies of Tony Blair, Bill Clinton and Gerhard Schroeder, disheartening the centre-left and emboldening those who want more government intervention in the economy in all kinds of ways. On the right, it became a rallying cry against bailouts and the Fed, buoying an imaginary free-market alternative to government intervention.
Bannon is right. The crash brought together many forces that were around anyway — stagnant wages, widening inequality, anger about immigration and, above all, a deep distrust of elites and government — and supercharged them. The result has been a wave of nationalism, protectionism and populism in the West today. A confirmation of this can be found in the one major Western country that did not have a financial crisis and has little populism in its wake — Canada.
The facts remain: No government handled the crisis better than that of the United States, which acted in a surprisingly bipartisan fashion in late 2008 and almost seamlessly coordinated policy between the outgoing Bush and incoming Obama administrations. And yet, the backlash to the bailouts has produced the most consequential result in the United States.
Mr Tooze notes in his concluding chapter that experts are considering the new vulnerabilities of a global economy with many new participants, especially the behemoth in Beijing. But instead of a challenge from an emerging China that began its rise outside the economic and political system, we are confronting a quite different problem — an erratic, unpredictable United States led by a president who seems inclined to redo or even scrap the basic architecture of the system that America has painstakingly built since 1945. How will the world handle this unexpected development? What will be its outcome? This is the current crisis that we will live through and that historians will soon analyse.
©2018The New York Times News Service