Nation Magazine, September 8-15, 1997 Whose Economy Is It? By Gary Mongiovi Wall Street: How it Works and for Whom. By Doug Henwood. Verso. 372 pp. $25 Economic processes are complex, and the forces that shape them are seldom transparent; such conditions are favorable to opportunistic ideologies. The folklore of the market has so deeply penetrated our collective intuition that to doubt the rationality, desirability or inevitability of capitalism is to identify oneself as a naive--or dangerous--eccentric. And so we are assured that markets are efficient and benevolent; that interest is just compensation for the capital-creating abstinence of capitalist savers; and that economic prosperity is, paradoxically, contingent upon workers' willingness to accept stagnant or declining living standards--as thought the economy had some other purpose than to enable the people who inhabit it to meet their material needs. The murkiest aspect of modern capitalism is its financial system, whose putative function is to channel money capital, and consequently productive resources, into the investment projects that can make the best use of them. Financial markets have acquired a quasi-mystical aura that is reinforced by the media ritual of reporting the day's stock market performance; this fetishization of the Dow has created the illusion that what is good for the markets is good for the rest of us. Most people sense that the doings of the markets have some relevance to their well-being; in this they are not wrong. But few of us have a clear understanding of how the movements of stock and bond prices connect to our lives. Doug Henwood's engaging book is a razor-sharp dissection of the world of high finance. Henwood (a Nation contributing editor) starts by pointing out that financial markets have very little to do with the allocation of funds to productive investment, most of which is financed out of firms' previously accumulated profits. Well over 90 percent of all stock market trades involve nothing more than the speculative reshuffling of the ownership of corporations. Similarly, most corporate debt is not used to finance the creation of new plants and equipment but to underwrite mergers and acquisitions, or buy back the firm's own common stock. Instruments like swaps, options and derivatives are advertised as hedging devices that protect producers and commercial enterprises against the risk of unanticipated changes in prices, interest rates or currency exchange rates; to some extent they do. But there is a strong speculative dimension to the markets for these instruments; instances of financial blowback are not uncommon, with the 1995 Barings debacle being the most striking recent illustration of what can happen when even the simplest hedge instruments are used to pursue a speculative killing. The deep complexity of many derivative securities makes their own riskiness difficult to gauge; changes in interest rates or in the price of pork belly futures can plunge the holders of such securities into a financial tailspin, as many players, notably Procter & Gamble, discovered in 1994. None of this information is particularly esoteric. Yet financial deregulation and tax relief for the put-upon recipients of capital gains income are endorsed, with mind-boggling earnestness, by economists, financial professionals and Senate banking committees precisely on the ground that such policies would stimulate economic growth. What, then, is the role of the markets? Henwood's central theme is that the system is a powerful engine for the concentration of income and wealth. Instruments of finance are weapons in the class war: "Behind the abstraction known as 'the markets' lurks a set of institutions designed to maximize the power and wealth of the most privileged group of people in the world, the creditor-rentier class of the First World and their junior partners in the Third." Economic orthodoxy has little use for concepts like power, exploitation, predation or coercion; no one, after all, is compelled to enter into any market transaction. But Henwood makes a persuasive case that all of Wall Street's "sophisticated machinations" are ultimately grounded in force. The relentless demand by portfolio managers for higher returns puts pressure on corporations to cut costs by downsizing. Central bankers regulate interest rates with a deliberate view to keeping labor markets slack enough to discourage wage increases and dampen any incipient tendencies toward worker militancy. The erosion of real wages in an aggressively consumerist age has resulted in an enormous increase in consumer indebtedness, which itself has a coercive aspect: "Debt," says Henwood, "can be a great conservatizing force; with a large monthly mortgage or MasterCard bill, strikes and other forms of trouble-making look less appealing than they would otherwise." It may be a coincidence that among developed economies, those whose financial systems are dominated by the stock market (Britain and the United States) rather than by commercial banks (Germany and Japan) tend to be characterized by greater inequalities of income and wealth. But Henwood's account suggests that there is a systematic connection between economic inequality and macroeconomic instability and the degree to which an economy's financial system encourages speculation and short-term profit-taking. Henwood has the natural-born teacher's ability to make the obscure transparent. He recognizes, moreover, that what economists say about financial markets is as important as how the markets actually work--and that the two don't necessarily jibe. He provides a first-rate non-technical assessment of orthodox theories of finance, the upshot of which is that economists haven't got much of a clue about the processes that drive the financial markets. They have no solution, for example, to the so-called equity premium puzzle--the fact that stock shares have historically yielded a return well above the returns to bonds and real assets, well above the real rate of economic growth and well above what can be explained by the higher risk of equity investments. The emergence of the first stock markets in Holland in the seventeenth century was soon followed by the first stock market crashes. Economists know that every speculative bubble eventually bursts, but they can't explain the "irrational exuberance" that perpetuates the bubble; nor have they a theory to predict when the inevitable collapse will occur. Mergers, leveraged buyouts and hostile takeovers are promoted, by those who perpetuate them, as mechanisms for the replacement of inefficient managements; but the record shows that acquired firms are no more profitable after a takeover than before. Notwithstanding the mass of evidence to the contrary, all neatly presented in this book, most economists depict the financial sector as a smoothly functioning allocative mechanism that is rational, efficient and just. That system may lurch now and then, giving rise to some collateral damage among workers, pensioners and children. But in the end, the apologists content, the problems are minor, markets know best and the surest way to get them to perform better is to deregulate them. Evidently the only truly dismal thing about the dismal science is its explanatory record. Henwood devotes an instructive chapter to economic "Renegades"--dissenters from the Panglossian orthodoxy. Karl Marx and John Maynard Keynes inspired heterodox traditions that acknowledge both the destabilizing character of credit and speculative finance and the advantage that control of finance bestows upon capital in its contest with labor. These traditions, marginalized within academia and invisible to the media, represent promising alternatives to the sterile abstractions of the approved textbooks. Henwood also offers a set of ambitious suggestions for transforming the financial system from one that serves capital to one that serves people, including redistributive taxation, democratization of the Federal Reserve and worker representation on corporate boards. The movement to privatize the Social Security system appears to have gone into stealth mode; but Henwood's concise statement of the case against privatization will come in handy when the discussion is reactivated. Henwood is refreshingly critical of progressives' often reflexive hostility toward globalization. International trade and investment are not in and of themselves inimical to the interests of working people; they have in fact yielded numerous economic and cultural benefits (though these have not been equitably distributed), and much of the popular animus against globalization smacks of a reactionary and potentially dangerous nationalism. To focus on internationalization as the source of economic distress is to miss the point that trade takes place in a particular institutional context that favors the interests of capital over those of labor. The culprit is not globalization but the network of capitalist institutions that govern trade, investment and production. Change the institutions and you change the social outcomes. Such change requires an informed understanding of how market forces really work--perhaps the best reason to read this illuminating book. (Gary Mongiovi teaches economics at St. John's University; he and Steve Pressman co-edit the Review of Political Economy)
