In comments, James Wimberley asked about the recent agreement on a 15 per cent global minimum rate of tax. Over the fold, a section from my book-in-progress (still a bit rough in places), Economic Consequences of the Pandemic addressing this and other points
In the 1980s and 1990s, the financialisation of the economy was viewed in triumphalist terms. Terms like ‘Masters of the Universe’ and ‘The Thundering Herd’ reflected the view of financial markets as not merely beneficent but irresistible and indestructible
All of that came to a crashing end in September 2008 when the failure of Lehman Brothers brought the entire financial system to the brink of collapse. Hundreds of securities that had been rated as AAA were shown to be worthless
But the general loss of faith in financial markets had little impact on their actual operations. Hardly anyone in the system faced any serious consequences. [Fn: the complete impunity of Wall Street contrasts sharply with the aftermath of the financial collapse in Iceland where a dozen or more senior bankers were sent to prison]
The divide became even wider in the years following the crisis. Having escaped any consequences for nearly destroying the world economy, the financial sector was, if anything emboldened. A steady sequence of scandals showed them engaged in everything from market-rigging to tax evasion to the provision of finance for terrorists and drug dealers [fn A partial list, which readers are invited to explore includes LIBOR, Panama Papers, cum-ex, Forex, UBS tax evasion, Deutsche Bank money laundering, Credit Suisse spying and many more). In every case, the response of regulators was the same. The banks paid a financial penalty representing a small proportion of the profits their manipulations had generated, and were told that next time there would be really consequences. Eventually, one Swiss bank was forced to close for its role in US tax evasion [Wegelin was the oldest bank in Switzerland, but apart from that was of little significance].
All of this undermined the political strength financial sector. In the heyday of financialised capitalism, the financial sector enjoyed bipartisan political support and a fair degee of popular enthusiasm. Financial professionals and firms donated both to Democrats, whose social liberalism they largely shared and to Republicans, whose willingness to hand out big tax cuts they appreciated.
The first step was the Occupy Wall Street movement which erupted in 2011. Although the movement ultimately faded away, it marked a sharp break between the left, including the left wing of the Democratic party and the financial sector. Democrats with close ties to the sector, such as Senator Chuck Schumbers came under increasing pressure to justify their position.
Republicans, most notably Donald Trump, combined rhetorical denunciations of Wall Street with highly favorable policies, including tax cuts and the removal of regulatory constraints. Most notably, while he promised to ‘drain the swamp’ by breaking up the banks with a new version of the Glass-Steagall Act, in reality he did nothing of the kind.
The result was that, by the time the pandemic hit, Wall Street was as profitable and politically influential as it had ever been, but commanded almost no public support. Both Democratic and Republican voters (as well as independents) supported stronger regulation
This is an inherently unstable situation. The power of the financial sector cannot, in the end, co-exist with democracy. While finance is essential, it should be subordinate to the needs of productive economic activity, and not the primary driver.
The pandemic has further exposed the dependence of financial markets on public suppot. As the severity of pandemic became evident in February and March 2020, stockmarkets plunged. It was only when the Federal Reserve stepped with massive purchases of securities and injections of liquidity that markets recovered.
The availability of easy money has led to a surge in speculation. Much of this has occurred on the fringes of official financial markets in such ventures as ‘Initial Coin Offerings’ for cryptocurrencies. However, mainstream financial markets have produced similar speculative
most notably in the form of “special purpose acquisition companies” (SPACs)
Although the name SPACs is new, the concept is not. A speculative boom in Australia in the 1980s saw the emergence of hundreds of ‘cashbox’ companies, which were created solely for the purpose of acquiring other companies Those that survived the sharemarket crash of 1987 were killed off by a financial crisis. Subsequent regulations prohibited the listing of companies with more than half their assets in cash https://smallcaps.com.au/spacs-australian-cash-boxes-were-ahead-of-their-time/
In one form or another, speculative vehicles like the SPAC can be traced back to the first experiment with joint-stock corporations in 18th-Century England, which gave rise to the “South Sea Bubble”. Among many dubious corporations created in this mania was, it is said, “a company for carrying on an undertaking of great advantage, but nobody to know what it is”
Although they have benefitted greatly from government supporrt, financial markets have made little if any contribution to solving the problems created by the pandemic. Programs like mortgage relief have been legislated by Congess.
What can be done to curb the power of financial markets. Both governments and civil society have a role to play.
Much of the profitability of the corporate sector derives from socially undesirable activities such as tax avoidance. Progress against tax avoidance and evasion has been grindingly slow, but real nonetheless.
As a result tax evasion by wealthy individuals using offshore accounts has become more difficult and risky. The famous Swiss bank account, wiht guaranteed anonymity, ceased to exist in 2018 when Switzerland began officially sharing bank account data with tax authorities in othe countries.
The leak of the Panama Papers detailing offshore arrangements amnaged by law firm Mossack Fonseca showed the extent of evasion, but also accelerated the push against it. Overriding a Trump veto in 2021, Congress passed the Corporate Transparency Act, which requires large numbers of businesses to disclose their true ownership
On the corporate front, colorfully named maneuvers like the “Double Irish” and “Dutch Sandwich” were used by US corporations to shift profits from the countries where they were earned, inlcuding the US into low-tax European jurisdictions and then to tax havens in the Caribbean and elsewhere. The OECD has moved against these also, under the more prosaic terminology of Base Erosion and Profit Shifting (BEPS). A long series of negotiations have gradually squeezed out the most egregious practices.
These measures have had some limited effect. In the years leading up to the Global Financial Crisis, financial corporations accounted for nearly 40 per cent of all corporate profits. After the Crisis, the finance share of profits rapidly recover. However, this recovery has been limited. The finance sector share of profits is now about 25 per cent, still well above the levels of the 20th century, but below those of the bubble economy that ran from the 1990s to the GFC.
It is unclear how much of this is due to tighter regulation. Steady improvements in technology might have been expected to drive a contraction in the financial sector, and a reduction in margins between borrowing and lending rates. However, there is not much evidence of this. Another possibility, discussed below, is that the information monopolies that now lead the growth in corporate profitability have little need for investment and therefoe less reliance on financial markets.
What can be done to return the financial sector to its appropriate and limited role of an intermediary between savers (mostly households) and borrowers (homebuyers and business investors). Both governments and activism by civil society have a role to play.
Activism can seek to push the financial sector towards encouraging more socially desirable forms of investment. Perhaps the biggest successes have been seen in campaigns to force finance sector firms to divest from coal, oil and gas in line with the need to decarbonize the global economy. The campaign began with small-scale successes, persuading universities, churches and charitable organizations to divest, but these symbolic measures did little to reduce the availability of finance for carbon-based fuels.
The broader campaign for divestment faced determined resistance from the finance sector. Proposals for divestment put forward at shareholder meetings were routinely defeated, typically with institutional shareholdes like pension funds lining up with company boards in opposition. But as it became evident that decarbonization would happen sooner or later, banks, insurance companies have adopted divestment policies, focusing on the more sustainable profits that can be gained from investment in carbon-free energy sources such as solar and wind.
While activism has its place, co-ordinated action by national governments is needed to bring global finance under control. The Biden Administration’s proposal for a 15 per cent minimum rate of corporate tax, already backed by more than 100 countries, is a crucial first step.
This will be a continuing struggle, and corporations will doubtless seek new ways to avoid taxes both at home and globally. But the era when companies operated globally while national governments had no capacity to act beyond their own borders has come to an end. With sufficient political determiantion, and international co-operation, it is possible to make both corporations and high-income individuals pay their fair share of the costs of running a modern economy.