Figures in the ether
Various estimates have been made of the ‘cost’ of the recent financial crisis. The International Monetary Fund (IMF) reckoned in 2009 that $12 trillion had been lost, while in 2012 the US Treasury Department gave a figure of $19 trillion. Either way, it’s a huge amount of money. But what does it really mean? Where did that $19 trillion disappear to? Outer space?
All it really means is that the wealth of the world after the crash was valued at $19 trillion less than it was before the crash. But not one single penny coin was actually lost. All the real wealth – all the actual solid stuff like houses and factories and gold bars and even banknotes – still exists, exactly as it did before the crash. The losses are all a matter of figures in the ether, so, yes, in a way the money did end up in outer space. But, more to the point, it never really existed in the first place.
That $19 trillion was the credit bubble, or at least a part of it. In other words, the global financial system was responsible for creating $19 trillion out of nothing over the previous decade or so. In fact, according to my calculations regarding the difference between GDP figures and the real wealth of the global economy, as shown in my first chart, the credit bubble amounted to considerably more than $19 trillion. At its peak, the GDP figure for the world as a whole was overstating real economic output by over $20 trillion annually, and this situation had been going on for well over a decade, and is still going on now. The credit bubble hasn’t really burst, it just deflated slightly.
I return to this problem in more detail later in the book, because I think this overestimation of real economic activity has serious consequences for us all and is the main reason that parts of the world, especially Europe, will have to adjust to a new economic reality. In these difficult times – times in which the majority of the population in the developed world will continue to experience declining income in real terms (adjusted for inflation) – we need to look again at certain values.
The boom times are over and they won’t be coming back, and the main reason for this is the lack of real jobs, a shortage caused by the increasing productivity of industry, which in turn is linked to the growth of the financial sector, a sector of the economy that has no apparent interest in job creation but a very great interest in debt creation.
There has been a massive fraud committed by the banking sector generally, one in which the wealth that should belong to everyone has been taken by the rich. It wasn’t a planned theft, and no particular person or organization is to blame; it’s just the way things have worked out, a direct result of the free-market capitalist system, an inevitable consequence of the accumulation of ever more wealth in the hands of the few. It can’t go on for much longer.
I don’t mean that in a moral-outrage sense, though obviously I think it’s a bad thing. I believe that there are practical reasons why this situation cannot continue for much longer. The dynamics of the economy have changed greatly over the past few decades, in a way never seen before. The proportion of genuine wealth creation relative to total wealth has been falling. The rise of the banking sector has resulted in the credit bubble, and although this might have deflated slightly during the crash of 2008, as long as central banks keep paying off one type of debt by creating another type of debt, the problem can only get worse.
This transition from an industrial society to a financial society – from one that produces real wealth to one that produces credit – is obviously unsustainable. The free-market capitalist system is rapidly approaching its inherent limits. For the last two centuries, the developed world has thrived on industrial growth but, for the last three decades, that real growth has been increasingly overshadowed by a financial system that depends on the creation of credit for profit, while at the same time relying on real industrial growth to generate enough wealth to pay those debts. We have become dependent on economic growth, but continuous economic growth is impossible.
The creation of artificial wealth is bound to have a significant impact on the economy. By ‘artificial wealth’ I mean the creation of money by banks in the form of credit, as happened in a big way leading up to the 2008 financial crisis, or by governments in the form of ‘quantitative easing’, the process by which central banks buy government debt (bonds etc) from banks and other institutions with newly created money, as undertaken after the crisis.
One effect, as I’ve already tried to show, was to boost economic activity by as much as $20 trillion annually in the years leading up to the 2008 crash. In Figure 13 I’ve taken the information on real wealth creation – based on raw-material extraction, as shown in Figure 11 – and used it to plot a line representing my estimation of GDP without the credit bubble. This is simply the line that GDP would have followed if it had continued to grow at its long-term trend rate, which, allowing for efficiency improvements and a gradual reduction in the waste of resources, happens to correlate very closely with raw-material extraction. This is, of course, what one might expect, and follows the trend that my first chart showed for most of the previous century, until money lost its link to gold in 1971, after which time the financial sector of the economy began to expand quite rapidly.
The chart shows the build-up of this artificially created wealth: the loans that led to the inflation of asset prices, especially housing, which in turn contributed to the inflation of the credit bubble. By adding up the difference between the two lines for each year, I arrive at a figure that represents the bubble. This figure is in the region of $200 trillion, and at the time of writing (early 2014) the bubble still appears to be expanding.
$200 trillion seems a lot of money to have been created out of nothing, and I am inclined myself not to believe it. Although the method I used to reach this figure seems sound enough, the whole thing obviously requires careful investigation.
Figure 13
First, I think we should look more closely at GDP, which, as I mentioned earlier, is not an accurate reflection of real wealth creation. [When I talk about total world Gross Domestic Product, as I do here, I really mean the gross output of the global economy. The word ‘domestic’ no longer applies in the global sense, but I shall continue to refer to it as total world GDP, because it is arrived at by combining national GDP figures.]
GDP is theoretically a measure of annual industrial output, but it includes all economic activity, whether productive or not. As well as including spending based on debt, which has been my main point so far, it also includes a great deal of unproductive output based on general activity within the service sector, including government spending on health, education and defense, only a small percentage of which involves real wealth creation (mostly the spending that goes into construction of public buildings, plus some manufacturing related to equipment and the defense industry). Because of this, the figure for real wealth creation – what we might call productive GDP – has always been much lower than the official GDP data would suggest. We can see this in Figure 14, which gives a breakdown of economic activity in the US, UK and Eurozone, according to official GDP figures.
Figure 14
The data suggest that agriculture represents just 1.2% of the US economy, by value added. For Britain the figure is a mere 0.7%, while the financial sector apparently adds over 30%, when grouped with