The New Economics

A Bigger Picture

Andrew Simms, David Boyle

• Publisher: Routledge
• Year: 2009
• Print ISBN: 9781844076758
• eBook ISBN: 9781136573378
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

Economics sometimes seems to be stacked against social, environmental and individual well-being. But it doesn't have to be like this. A new approach to economics - deriving as much from Ruskin and Schumacher as from Keynes or Smith - has begun to emerge. Skeptical about money as a measure of success, this new economics turns our assumptions about wealth and poverty upside down. It shows us that real wealth can be measured by increased well-being and environmental sustainability rather than just having and consuming more things. This book is the first accessible and straightforward guide to the new economics. It describes the problems and bizarre contradictions in conventional economics as well as the principles of the emerging new economics, and it tells the real-world stories of how new economics is being successfully put into practice around the world. An essential guide to understanding new economics for all those who care about making economics work for people and planet.

1

The Economic Problem

Man talks of a battle with nature, forgetting that if he won the battle, he would find himself on the losing side.

E. F. Schumacher, Small is Beautiful, 1973

Industrial humanity is behaving like King Midas. He turned his daughter into gold before he realised the limitations of his own conception of wealth.

Paul Ekins, Wealth Beyond Measure, 1992

What can Walt Disney teach you about financial crises? When the sub-prime mortgage crisis took hold in the spring of 2007, with the big financial players desperately beginning the search for exactly what lay in those structured debt investments they had believed were assets, the front line investigators were employed by a company in Connecticut, outside New York City, called Clayton Holdings. Clayton specialized in checking out risky mortgage loans for the big Wall Street firms, before or after they had been bundled up into the notorious structured investment vehicles (SIVs) that they were buying. It was at this point, checking one mortgage portfolio, that they found one that had been signed by the borrower simply as ‘M. Mouse’.

This was a symbolic moment. If Mickey Mouse can take out a mortgage, then the system is revealed to be without any of the checks and balances that are supposed to safeguard us all. Especially in the UK, people still believe that the great institutions that underpin our lives, known as banks, are dedicated to careful scrutiny and prudent lending: in practice, these institutions – like so many others – have been hollowed out, removing those checks, as well as those bank managers who might once have scrutinized Mr Mouse’s mortgage application and rejected it earlier.

It was a serious crisis, but it wasn’t exactly unprecedented. The Wall Street crash followed the great radio stocks boom. The 1987 crash followed the junk bond boom. The dot.com ‘bust’ followed the dot.com boom. Now the 2008 crash has followed the property and credit boom. Although it always comes as a surprise to the people the novelist Tom Wolfe dubbed the ‘masters of the universe’, financial panic follows financial over-excitement, as surely as night follows day.¹ A handful of sacrificial lambs are blamed and sometimes even gaoled; regulations are tightened and loosened again. But the fundamental problem that the financial markets are the epicentre of a massive system, the main purpose of which is to make its key players unimaginably rich, is never properly addressed. Nor are the other structural problems of the economic system, which forgives the powerful their mistakes, and which cushions them against the hard times, and provides them with enough money to achieve their dreams, but exhausts the rest of us and punishes and corrodes the lives of the poorer two thirds of the world. ‘The economic problem’, as John Maynard Keynes put it, has not been solved, and there sometimes seems to be little prospect of solving it – even when its institutions suffer the kind of catastrophic collapse they suffered in 2008.²

The crucial fact is that the collapse of the financial markets is only a small part of the problem. It is simply the visible part of an iceberg that represents those crises the world faces which are driven by economic assumptions that no longer work. This latest unravelling – and there have been more than 40 currency crises since the Second World War – is the beginning of the end of the flawed dream that a handful of us could consume our way to economic nirvana. The planet can’t take it; the human psyche can’t take it; but economics seems to insist that we do it anyway. That looks increasingly like an impossible contradiction. Is there a way out?

This book suggests that there is: a ‘new economics’ approach, or to be more accurate, a bundle of approaches, that values real, rather than illusory wealth, and puts people and planet first. The good news is that there have been symptoms now for decades of the seeds of this new economics, which sets out to organize the muscles of the world differently. It is there in the emergence of local and ethical food, the rise of people’s demand for authenticity, in the rise of ethical business, ethical investment, fair trade and the massive growth in ‘downshifting’, in everyone from architects to economists learning from nature, of people deliberately earning less to have a better life. This new economics is based on a different framework: it recognizes a different yardstick of success. It is aware of the gap between money growth and real wealth. Its basic tenets are accepted in communities and in business alike, but have barely filtered into the ivory towers of government and their orthodox economic thinking.

The idea is not new. Books on the new economics have been written already, even if they did not use that term. But what was urgently needed was a book, written as much for non-economists as for the experts and specialists, which could set out the tradition, parameters, practicalities and claims of this new economics, and set these out in terms that policy makers can understand and use. We have tried to do that here by looking at the way the world works through the lens of the new economics, and finding there some bizarre questions that seem to fly in the face of orthodoxy. Why do we work longer hours than some medieval peasants? Why are the best mechanics in the world Cuban? Why do we export as many chocolate waffles out of the UK as we import? Each one of these serves as an introduction to a different aspect of the new economics, whether it is the critique of the idea of wealth that lies at the heart of new economics, or whether it is the implications of that critique for money, trade, work or resources.

Those bizarre questions overlap, but they broadly cover the basic issues of the new economics, with a chapter of the book devoted to each – measuring wealth, money, markets, work, resources, trade, community and debt.

***

The sheer diversity of the immediate crisis – in credit, climate and energy – is also, paradoxically, an opportunity. Its sheer seriousness compels some response. The crunch is a combination of a credit-fuelled financial crisis, accelerating climate change and volatile energy prices underpinned by the encroaching peak in oil production. These three overlapping events threaten to develop into a perfect storm, the like of which has not been seen since the dustbowls, bankruptcies and unemployment of the Great Depression and quite possibly never before.

These immediate crunches are underlain by three fundamental crises: ecological, human and spiritual. These are not usually understood as economic problems, but that is exactly what they are: a by-product of faulty measurement and misleading values pedalled by an ill-directed economic system. These central crises are as follows:

The ecological crisis

The rising temperature of the biosphere is being caused by human economic activity, burning fossil fuels to drive the growth economy. As a result, the year 2005 was the hottest year ever. Carbon dioxide is at its highest level in the atmosphere for the last 2 million years, predominantly driven by industrial and human use of fossil fuels: the destruction of our natural capital for economic reasons, leading to climatic upheaval, more extremes of weather including increasingly severe droughts and floods, species loss and a real threat to the viability of the human food chain. If all the ice in the world melted, the sea would rise by up to 70 metres (m). But even a single metre will displace tens of millions of people in a country like Bangladesh, slightly more will be catastrophic for many parts of the world, flooding major cities and large parts of certain countries. Estimates also suggest that in the foreseeable future we are going to lose a quarter of our mammalian species, 12 per cent of our bird species and something like a third of our amphibians. The future for polar bears is bleak.

Then there is the inappropriately named ‘positive feedback’, when these changes cause knock-on domino effects. As the ice melts, there are less reflective surfaces, so less heat is reflected back. As more carbon dissolves in the sea, its ability to absorb carbon goes down, besides becoming more acidic and destroying coral reefs. As the sea warms, other greenhouse gases trapped in the sea bed stand to be released. As the tundra melts, it gives off methane and carbon dioxide. As the Amazon rainforest is destroyed, there is more drought, more fires, more destruction, less carbon absorbed and more released. These and many effects are described in the last report of the Intergovernmental Panel on Climate Change.³

The human crisis

This is the crisis of distribution. Despite two centuries of economic expansion and unprecedented growth in recent decades, around 1 billion people are going to bed chronically malnourished every night and 30,000 children are dying every day of preventable diseases. Behind those statistics lie individual stories of human tragedy all over the world. Worse, the inequality between those people and the wealthy has actually been increasing. In the late 19th century, the ratio of the richest 20 per cent in the world to the poorest was somewhere between 3:1 and 10:1. By 1960, the ratio between the richest and the poorest had grown to 30:1. By 1997, that had grown to 75:1.⁴ These are accelerating figures: now the richest 1 per cent of the world earn as much as the poorest 57 per cent of the world combined. At the same time, the poorest 5 per cent of the world actually lost a quarter of their real income.

The spiritual crisis

Yet even those who are among the winners under the current system are largely failing to benefit. Although gross domestic product (GDP) in the UK has doubled over the last 30 years, most measures of well-being have remained steady or dipped down. Similar studies are showing even some decline in well-being in most developed countries. The winners in the system are suffering from rising debt, rising stress, rising depression and mental ill health.

At the same time, the social glue that holds our lives together, and makes the economy possible, is also unravelling: families, neighbourhoods and relationships are fracturing under the pressure of high mortgages, benefit regulations and the kind of monoculture that drives out local enterprise, institutions and community life from many areas in the name of efficiency, centralization and corporate success.

When 12 million people in Europe are involved in some way in downshifting – earning less money for greater well-being – then you know the mainstream, which demands we should constantly accelerate our earning and spending, has a problem.⁵ Downshifting is incoherent in conventional economic terms, where people are assumed to maximize their income at all times. It is also evidence that high growth economics does not necessarily produce greater well-being even for those who benefit financially.

***

Major change tends to emerge with the aid of economic catastrophe, though that is a depressing conclusion. Even so, it would have been hard to imagine, when the property boom was still at its height in the spring of 2007, that, within 18 months, governments would have been dusting off economic ideas that had been rejected for a generation or more, and would be desperate for new ones. The crash was predictable; the scale and speed of collapse was less so.

The immediate cause of the great unravelling was the so-called ‘sub-prime’ market, which was in itself nothing new. It was one aspect of the market that lent money to poorer people, at higher risk of default, in return for higher rates of interest. It had previously been a whole industry carved out between door-to-door loan sharks, shunned by the mainstream lenders. The big banks had been criticized on both sides of the Atlantic for failing the third of the population they considered unworthy for credit. But instead of expanding their own operations to cover them, they invested in

‘sub-prime’ companies to mop up the marginally bankable instead, and foremost among these was HSBC.

So it was hardly surprising that it was HSBC that revealed, in February 2007, that they were setting aside extra funds to cover bad debts in their American sub-prime lending portfolios. On the same day, one of the biggest sub-prime lenders in the USA, New Century in California, experienced a catastrophic loss of confidence after revealing a quarterly loss. Its senior executives were away in Ireland planning future projects: another metaphor for the faults of the system as a whole.

What had happened was that the investment banks believed they had discovered a way for mortgage lenders to lend money to poorer people at high rates of interest, but at negligible risk. What they did was to bundle the loans they had made together with a range of other loans from other markets, with varying degrees of risk, and sell them as safe investments. Then they could lend money from the sale to more investors and so on.

The disastrous model used by so many lenders meant bundling up their mortgages and selling them on, then using the proceeds to lend more. It meant that banks and other investors would buy the SIVs, getting the full value of the repayments over the years. The SIVs were then taken apart and reassembled into parcels called collateralized debt obligations (CDOs) and sold to hedge funds, which sold them on all over the world. Because these CDOs included debts from a range of different markets, they were believed to be insulated against risk: the mortgages might cause problems, but the other loans would offset the risk. That is how the credit ratings agencies Moodys and Standard & Poor saw it, giving them AAA ratings.

The trouble was that, once the truth about the sub-prime loans – M. Mouse and all the rest – became clear, this very safety aspect of the CDOs became their undoing. They could all rely on safe loans being in the package, but it also meant they could also rely on unsafe sub-prime loans being in there as well, and, as the default rate began to rise, that rendered them of doubtful and uncertain value.

By July 2007, Standard & Poor was threatening to cut its ratings on $12 billion of sub-prime debt. A month later, the European Central Bank was pumping €95 billion into the money markets, as the flow of interbank lending, which banks need to deal with day-to-day withdrawals while their deposits are out on loan, all but dried up. A month after that, reports that Northern Rock was looking for emergency financial support from the Bank of England led to the first run on a British bank for over a century, with the alien sight of savers queuing for hours in the rain outside branches.

Since then, as we know, the crisis accelerated until most of the investment banks on Wall Street had disappeared, and – spurred by the bankruptcy of Lehman Brothers – most of the banks in Europe and North America were forced to accept state bail outs and partial state control, or went cap in hand to the sovereign wealth funds in the Middle East, to avoid bankruptcy. The economic assumptions of the past generation lay in ruins, the advice provided by the best financial minds had been disastrous, and occasionally fraudulent, and the architecture that runs the world’s economies was broken beyond repair.

The epicentre of the disaster on the ground was by then the city of Cleveland, Ohio, where one in ten homes was reposs...

Table of contents

• Cover
• Halftitle
• Title
• Copyright
• Dedication
• Contents
• Acknowledgements
• List of Acronyms and Abbreviations
• 1 The Economic Problem
• 2 No Wealth but Life: A Brief History of the New Economics
• 3 Measurement: Why Did an Apparently Poor Pacific Island Hit the Top of the Happy Planet Index?
• 4 Money: Why did China Pay for the Iraq War?
• 5 Markets: Why has London Traffic Always Travelled at 12mph?
• 6 Life: Why do Modern Britons Work Harder than Medieval Peasants?
• 7 Resources: Why are Cuban Mechanics the Best in the World?
• 8 Trade: Why Does Britain Import the Same Number of Chocolate Waffles as it Exports?
• 9 Community: Why do Fewer People Vote when there is a Wal-Mart Nearby?
• 10 Debt: Why are Malawi Villagers Paying the Mortgages of Surbiton Stockbrokers?
• 11 The Future
• Appendix A From the Ashes of the Crash: 20 First Steps from New Economics to Rebuild a Better Economy
• Appendix B New Economics Tools and Techniques
• Index