ParisTech Review

For Jean-Marc Daniel, professor of political economics at ESCP Europe, it is all very simple: “there is no crisis.” Rather, “it is just a Juglar cycle,” an economic concept named after Clément Juglar In the late 19th century, Juglar put forth the theory of an economic cycle with three phases (expansion, crisis, and liquidation), repeated every 8 to 10 years. More than a century ago, the economist attributed this phenomenon to the periodic fluctuation of credit. Intense speculation leads to a period of euphoria, with excessive expectations, followed by an inevitable crash when reality catches up. Is the 2008 crisis thus merely the unpleasant but temporary phase of a periodic and predictable phenomenon? The reality is somewhat more complex.

The first item to consider is the deleterious context. According to Jean-Marc Daniel, the impact of the 2008 crisis has been exacerbated by the past choices of the Bush administration. It “conducted a fiscal policy dictated by the illusion of the ability to escape this cycle,” he explains. ” 2001 should have seen a more severe slowdown and handled as an automatic stabilizer; instead, it was managed in the Keynesian manner – with a counter-cyclical fiscal policy.”

To make things worse, Alan Greenspan’s Federal Reserve failed to act as a fiscal counterweight, losing control over inflation. “When the Reagan administration adopted a counter-cyclical fiscal policy,” says Daniel, “this led to inflation and sowed the seeds for greater future crises. The Federal Reserve (the Fed) then attempted to thwart these excesses through its monetary policy.”

First and Foremost a Financial Crisis

There is, however, novelty in this crisis. It lies mainly in the form that inflation has taken in the expansion phase. Instead of the traditional rise in prices, the bubble was captured by the global financial sphere. “Rentier states, investors in the housing bubble, and intermediaries – that is, banks – have benefited from this bubble and acquired purchasing power. The big loser in purchasing power has been the unemployed of the West, “says Daniel.

Some of Daniel’s colleagues emphasized the role of the financial industry. For Pierre-Noël Giraud, professor of economics and researcher at the Centre of Industrial Economics at Mines ParisTech, the crisis has two main causes: the monetary policy of easy money and the wave of financial innovations, whose perverse effects (e.g., excessive support of consumption through debt, information asymmetry within the financial sphere) have since been widely analyzed. According to the researcher, “We are witnessing above all a crisis of the financial market.”

A Crisis Powered By a Lack of Historical Insight, Literally and Figuratively

We are thus dealing with a financial crisis, and one that has long been threatening a system running out of steam. “The international financial system has not been working since 1989,” says Moncef Cheikh-Rouhou, professor of business economics and international finance at HEC Paris. “Bretton Woods died at the same time as communism,” he adds.

Since that time, the U.S. has no longer sought to balance its current accounts, exporting little and going into too much debt. This has led to the accumulation of international debt financing and the use of external financing, such as mortgage securitizations.

For many, the behavior of states and organizations in this context shows a real lack of insight in regards to lessons of the past. “I am amazed by the historical ignorance of market actors,” bewails Jean-Luc Gréau, French economist and author of La trahison des économistes (Betrayal of the Economists). “The crisis of the 1930s was a crisis of demand. The construction and automotive industries, before the introduction of protectionist measures (early 1930s), dropped by 75% and 80% in three years, ” says Gréau.

This time, the economist expects a drop in consumer spending, a plunge in business investment, a crunch in international trade, a fall of export credits, massive job losses, and a very cautious bank credit policy.

“Moreover, the decline of direct and indirect tax revenues, combined with injections of liquidity into the banking system, will cause the deterioration of public accounts and bring to fore the solvency of the most indebted states,” adds Gréau. This is a disaster scenario sadly embodied by countries like Iceland, or more recently, Greece.

“G7 debt has grown by half between 2007 and 2010, from 55% to 85% of gross domestic product. At 60%, debt is manageable; at 90%, much less,” says Gréau. “Starting at 80%, it is a downward spiral. The debt service hampers growth and it is unsustainable,” affirms his counterpart Cheikh-Rouhou. Western countries have a long way to go to reconcile growth and the balance of public accounts.

The End of a System?

For some, the disruption of today’s economies is more than a cyclical phenomenon that has occurred with more or less force; it marks the end of an ideology. “We are witnessing the end of the capitalist system, which is fundamentally unsustainable,” says Paul Jorion, anthropologist and sociologist, specialized in cognitive sciences and economics. “On the one hand, the colonizing behavior of the human species, exacerbated by the capitalist exploitation of resources, is now reaching the physical limits of the earth. On the other hand, capitalism is based on a tripartite relation in which investors, executives, and producers share the wealth of the firm. In 2007, as in 1929, the share of the annuity granted to investors in the production costs of goods and services reached a record high.”
The greed of security holders, possessing a purely financial logic, drove the capitalist system that made their fortune to the brink of destruction. Therefore, according to Jorion, their role in economic development must be drastically limited. In other words, financial activity must be reduced.

Jean-Pierre Dupuy, engineer, philosopher, and co-director of the Center for Research in Applied Epistemology of the Ecole Polytechnique, a member of ParisTech, sheds further light on the debate. In his book Libéralisme et justice sociale : Le sacrifice et l’envie (Liberalism and Social Justice: Sacrifice and Desire), Dupuy dissects liberal thought and reveals the inability of liberal theories to ponder social justice without getting caught up in contradictions. Economists advocate remedies for market organization without considering their paradoxical nature, thus going against Dupuy’s notion that “the market controls the panic.”

Henri Paulson himself has noted a similar paradox in On the Brink: Inside the Race to Stop the Collapse of the Global Financial System. “To protect liberal capitalism, I became the secretary of the Treasury to be eternally associated with an interventionist policy and a bank bailout,” he concludes in his autobiographical account of the crisis.

The Steps to Get Out

Everyone agrees that the leaders of developed countries have failed to prevent the crisis. Governance, or rather the lack of governance of the financial industry is widely recognized as being responsible for the crisis. The conclusion is deceptively simple: “For a fresh start, we must first regulate the global financial system, and, second, establish a governing authority of globalization, which coordinates economic and monetary policies,” says Giraud.

“The notion of a super [International Monetary Fund] or ‘World Organization of Finance,’ which would regulate financial services and rebalance the excesses of globalization, is seductive,” says Cheikh-Rouhou. “Such a structure could emerge from a new Bretton Woods agreement, organized by the G20, preferably before 2013. This agreement would acknowledge the fact that Brazil, China, India, and Gulf countries have their legitimate place alongside developed countries.”

However, the international cooperation required for these two steps is far from given. “If the G7, G8, or G2 had been able to solve the problem, they would have done so already,” observes the economist. “In 2007, France recommended the G20 as a body to deal with it, but to no avail so far.”

Global negotiations, as demonstrated by the recent deliberations on climate, are very slow and trade-offs difficult. If developed countries (U.S., Japan, and the United Kingdom) impose restrictions on their marketplaces, they run the risk of letting Singapore becomes the world’s leading financial center. They cannot afford such consequences: only a global decision is therefore conceivable.

The Division of Roles

In the face of such a predicament, the solution, according to Giraud, is the sustainable rebalancing of globalization. “The richest industrialized countries must escape the current model by focusing on high tech and luxury, and confine the rest of the active workforce to activities protected from international competition,” says the professor. “China and India, whose levels of household consumption are insufficient, should emulate Japan and Europe of ‘The Glorious Thirty’ or Brazil of today and start Fordist growth. The poorest countries, particularly in Africa, must continue or start their industrialization.”

Others call for the higher valuation of work, by breaking from the dogma of free trade to protect the industrial base of developed countries. These people believe that competition with emerging countries is unfair and at odds with the new aspirations of sustainable development. Reform of the system on one side, ideological change on the other. One thing is certain: it is time for action.

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