Friday, January 4, 2013

"Aha" Moments on the Global Financial Crisis

Review of The Unfair Trade: How Our Global Financial System Destroys the Middle Class (New York: Crown Business, 2012), by Michael J. Casey (403 pages)

Let’s get right to the point: this is simply the best book yet on the global financial crisis. If you can only read one book to understand the contemporary global economy, this one should be it. It’s a thoughtful work that deserves more reviews, a wider readership, and better sales (it’s currently at #122,700 on the Amazon sales rankings).

Although The Unfair Trade is less readable than some books on the crisis, it does a better job of explaining how “global imbalances” explain several seemingly unrelated problems. (For example, who knew that Western Australia’s iron ore mines were booming with Chinese demand?)

Granted, Casey’s account is less entertaining than Michael Lewis’ The Big Short (Amazon sales rank #1,244) or his Boomerang (Amazon sales rank #3,732), and it’s less analytical than Nouriel Roubini’s Crisis Economics (ranked #66,794). It’s not as personal as Greg Smith’s Why I Left Goldman Sachs (ranked #17,508), and it lacks the simplicity of Charles Ferguson’s attack on Wall Street corruption in his brilliant film Inside Job. At times, it digresses into finance-speak. But it’s an excellent piece of serious financial journalism, aimed at explaining globalization to readers. Unlike these others, this book makes globalization the central theme, from beginning to end.

Like Thomas Friedman’s The Lexus and the Olive Tree, Casey connects the dots between seemingly unrelated problems, showing how they are all part of a global trading and financial system. Yet he does this by rooting his analysis firmly in real world stories. Unlike Friedman, who tended to confine his interviews to global elites or taxi drivers, Casey tells the stories of ordinary people in China, the United States, Argentina, Australia, Mexico, Indonesia, Iceland, Spain, and Peru. Such stories, featured in each chapter, ground the narrative firmly in the real world and show how the fates of ordinary people are connected to global market forces and government policies. I repeatedly had “aha” moments when Casey linked these stories to global patterns, just as I did when reading Friedman back in the early 2000s. But this is serious journalism for grownup readers, not cutesy punditry.

Throughout the book, Casey aims to explain globalization to concerned citizens like his neighbor, “an avid and thoughtful reader” (p. 1). And Casey largely succeeds in this task. But—beware—you will need to be avid and thoughtful. His style is not as breezy as Michael Lewis' or as punchy as Friedman’s and will require some work. Still, if you can push through some occasionally dense passages in this 400-page tome, you will be rewarded with a grasp of the global economy that far transcends the shallow diagnoses of the Left’s lame Occupy Wall Street movement and the Right’s reactionary Tea Party movement.

The causes of our current malaise, in Casey’s view, go far deeper than greedy bankers (the complaint of the Left) or “socialist” governments (the complaint of the Right); rather, they are the result of a “network of flawed policies that distributes the spoils of integration unfairly, benefiting politically privileged elites and holding back everyone else” (p. 3). What does that mean? Read the book: it's Casey’s effort to explain this complex process of globalization to “everyone else.”

However, anyone who understands this famous (and hilarious!) JibJab video will understand the main elements of Casey’s story:

Six “global imbalances” are central in The Unfair Trade—and in the video. First, as the video puts it, “it starts with sweatshop labor in a foreign factory.” China has a massive pool of cheap labor which is facilitated by China’s hukou system of residential registration in provinces, a system that allows employers to exploit migrant laborers (pp. 80-83).

Second, the massive China advantage in labor markets has created worldwide pressure to meet the “China price”. As the executive in the video sings, “we’ve got to make crap cheap enough to sell to Big Box Mart.” As chapters 2 and 3 of The Unfair Trade demonstrate, the China price has hurt U.S. manufacturers.

Third, nonetheless, “we’re on a shopping spree” buying lots of “cheap crap” (to quote JibJab). Despite the hollowing-out of American manufacturing, American consumers keep on buying stuff. The United States economy is heavily based on consumption of retail goods (nearly 70 percent of Gross Domestic Product is consumption), many from the Big Box Marts of the American retail strip.

Fourth, “with a wallet full of credit cards I never leave deprived,” says the guy in the video. American households have too little savings and rely on cheap credit to keep up with their neighbors at the same time that growth in their real incomes has stagnated (Casey, p. 211). We need that stack of credit cards to pay for the “cheap crap” we buy at Big Box Mart so we can keep our standard of living. But where is the credit coming from? China’s massive exports, high domestic savings rate, and exchange rate controls have allowed its central bank to build up massive financial reserves in the trillions of US dollars, which it uses to buy U.S. government debt or private financial investments. China, among other global savers, fuels cheap credit (Casey’s focus on China is attacked in this rather lame review by Tyler Cowen; if we read "China" to mean the giant pool of excess savings around the world that also includes oil states and other net exporters then Casey is spot-on).

Fifth, like the main character in the video, we put our “cheap crap” in houses that were often financed with cheap credit aided by China. The growth of liquidity fueled a speculative bubble in real estate prices, leading many Americans to believe that their houses would appreciate in value increase forever. When that bubble popped after 2007 and housing prices dropped, many Americans lost immense amounts of personal wealth as the equity in their homes disappeared. Many have been foreclosed, while millions remain underwater, owing more on their mortgage than their house is now worth. Casey’s point is that an excess of global savings from places like China caused ordinary people to drown “in a sea of global financial liquidity” (p. 63). Mortgage bankers, flush with global cash, were lending like crazy into 2008, and far too many Americans were willing to borrow.

Sixth, like the video’s hero, many American workers were downsized out of manufacturing jobs and lost retirement savings. Ordinary workers remain in a labor market characterized by “deflation”—a downward trend toward lower wages and benefits. At the same time, as Casey points out in chapter 9, the Federal Reserve’s strategy of “quantitative easing” (buying U.S. bonds, therefore putting money into the economy) has contributed to inflation of gold prices, financial market prices, and prices within other countries. Quite literally, the Fed became a “global liquidity machine,” boosting prices outside the U.S. and in financial markets but not really contributing to a domestic recovery with job creation. Globalized financial markets make it impossible to limit the effects of Fed policy action to the U.S. economy. Capital flows to wherever it can earn the highest return, anywhere in the world.  

Casey also describes Argentina and Western Australia as winners in the competition to supply China’s soy and iron ore needs (chapter 4), while Mexico and Indonesia lost out in the competition for cheap labor (chapter 5). Iceland forms “both a cautionary tale and a source of hope” for what could be done to reform banks (chapter 7), while the European crisis is “a compelling example of the damage done when domestically determined national policy making is placed in the context of an increasingly integrated and globalized financial system” (p. 301) full of “bond vigilantes” (chapter 8).

The book concludes by imagining four scenarios—a Euro crisis, a China crisis, a dollar crisis, and a trade crisis—before laying out a set of twelve modest policy suggestions that could begin to prevent any one of these crises from bringing down the world economy.

I am seriously considering adopting this text for my International Political Economy class. It’ll be a bit of a slog for some undergraduates, but it’ll be worth it for those “aha” moments.