When it pays to be crazy

In the irrational, out-of-control world of the financial markets, acting rationally loses money rath

As recent events indicate, financial markets seem incapable of self-regulation, and instead swing headily from irrational excesses to violent crashes. But it’s unlikely that governments could do a much better job of avoiding financial crises, as the job of creating wise and effective regulation may just be too difficult to perform. Nevertheless, when banks crash, it is the public purse that has to bail them out. The solution to this problem? Governments need to make sure that, during times of plenty, they make enough out of the financial sector to prepare for the bad times – for, as we’ve seen, days of plenty are always numbered.

The events of the past two weeks are instructive. Bear Stearns was a venerable Wall Street bank that kept on trading all the way through the Great Depression. In 2007, it was voted Fortune magazine’s “Most Admired” securities firm. Now, after the self-destructive excesses of the sub-prime mortgage bubble that has burst, it lies in ruins: sold over to JPMorgan Chase, via a government bail-out, at a mere $10 per share – a pale comparison to its market capitalization at $170 per share as recently as January 2007. The bigger problem is that no-one knows which venerable old institution will be next to implode.

The US Federal Reserve has had to stump up a massive $30 billion in order to smooth the sale of Bear Stearns, and who knows what kinds of additional largesse will be demanded of the world’s treasuries and central banks before the losses can be stemmed (if they can be). The financial system relies on trust; and once it is lost, trust – like innocence – is difficult to regain. Things could get much, much messier before they start to get better.

The origins of the current crisis lie in the short-sightedness, greed and poor regulation of the world’s markets in securitized credit instruments – the ever more exotic march of acronyms of CDOs (collateralized debt obligations), MBS’s (mortgage backed securities) and the like.

The world’s commercial banks have spent five years borrowing cheap money, lending it to (often poor) people for near-to-zero margins, and then marking their books with a repayment probability of 100 percent. Credit spreads narrowed to absurd levels, long term rates fell below short term rates (you actually got lower interest rates if you locked your cash up for longer) and the weakest, most brittle CDOs and MBSs could get an AAA rating from supine, eager-to-please rating agencies.

It was the fantasy world of “mark to market” accounting practices that destroyed Enron, and in consequence their file-shredding accountants Arthur Andersen, when the last bubble burst, but memories seem to be short when there’s money to be made.

It was obvious that the liquidity bubble was going to burst sooner or later. So, one might ask, why didn’t the grotesquely well-paid analysts at Bear Stearns and elsewhere urge caution instead of the full-steam-ahead lemming sprint to the cliff’s edge? The answer is a disturbing one – in an irrational market, rational behaviour loses money rather than making it. The first bank to have pulled in the reins in the credit markets would have lost out as everyone else made a quick killing from the irrationally-rising market.

When a price bubble is inflating, there is massive money to be made from buying high, but selling higher. There is a classic co-ordination problem here. It is rational to act ‘irrationally’ as long as the crazy folk around you keep driving the market up; it becomes rational to act ‘rationally’ only when your rationality is contagious, or when everyone can see that the cliff edge is now in sight.

Anyone who thinks that financial markets can be successfully self-regulating hasn’t understood the way that acting crazy can be the way to make massive profits, as long as you’re not the only crazy one. Added to this, of course, is the problem of the time horizons of the people who actually work for investment banks. They’re so well paid that they don’t need to care about their position in 7 or 10 years’ time. If this year’s bonus can buy a townhouse, then there’s no need to sacrifice current margins to vague concerns for future stability.

The truth is that the players in the world’s financial markets find themselves in a classic Prisoners’ Dilemma. It’s rational for any fund manager to join in with the latest unsustainable get-rich-quick scheme, because he’ll make more money than if he shows restraint. But if everyone joins in, then you create an unsustainable bubble, and everyone loses out in the end. It’s collectively rational for the financial market to show restraint, but individually rational for each of the players in that market to (within limits) throw caution to the wind (especially while everyone else is doing so and the bubble is inflating). But there’s just no way of getting from individual commercial decisions to the collectively rational and restrained equilibrium.

So, the financial markets are structurally incapable of self-regulation. The obvious alternative is state regulation. But there are two massive problems here. The first problem is one of technical know-how. The world’s investment banks spend billions on wages to get highly technically gifted people to devise ever more complex financial instruments and strategies. Crashes and bubbles can happen in unpredictable ways, and it would take even greater resources and expertise to design the surgical regulation needed to head-off every possible disaster. States lack the capacity to stay one step ahead of these out-of-control financial behemoths.

The other problem, of course, is that states face a Prisoner’s Dilemma of their own. Tighter regulation or higher taxes in London drives the banks to Geneva, and it’s better for the state to get inadequate scraps than nothing at all. It would be collectively rational for states to co-ordinate their tax and regulatory activities but, yet again, individually rational for each individual state to defect and undercut the competition.

Both these problems have solutions, though. If ‘surgical’ regulation is too difficult, then perhaps governments need to treat the periodic expansions and contractions of the financial sector as an unavoidable evil, and simply make sure that they extract enough in the way of taxes when times are good. (Although there’s no doubt that some forms of regulation that would have headed-off the current crisis are shockingly simple – for example, imposing a maximum income-multiple on new mortgages, with tighter standards for income certification.)

Moreover, governments are much better situated for co-operation than are private players in the financial system. If tax flight is a problem, then governments need to get their heads together, and do more to impose uniform tax treatments of financial institutions and their employees. Co-operation at the European level is especially urgent, and realizable. Some of these forms of co-operation could be politically popular throughout the continent. The EU would be much more popular if it was seen taking a stand against the cynical and leaching Swiss treatment of hedge funds, or Monaco’s scandalous position on tax exiles. It’s high time that the hard working people of the continent stopped being exploited by tax havens.

At the moment, we have a horrible imbalance of power. When things are going well, the bankers take the spoils. When they fail, the state – and its taxpayers – pick up the tab. If we can’t control the irrational oscillations of world finance, we should at least make sure that its benefits are distributed more justly.

Martin O’Neill is a political philosopher, based at the Centre for Political Theory in the Department of Politics at the University of Manchester. He has previously taught at Cambridge and Harvard, and is writing a book on Corporations and Social Justice.
Picture: Bridgeman Images
Show Hide image

The people is sublime: the long history of populism, from Robespierre to Trump

If liberal democracy is to survive, the tide of populism will have to be turned back. The question is: how?

A spectre of populism is haunting the world’s liberal democracies. Donald Trump’s victory in the US presidential election, the narrow Leave majority in the EU referendum, Theresa May’s decision to call a snap election – breaking the spirit of the Fixed-Term Parliaments Act passed by the government of which she was a member – and Recep Tayyip Erdogan’s victory in the recent Turkish referendum all testify to the strength of the populist tide that is sweeping through the North Atlantic world. The consequences have been calamitous: a shrunken public realm, a demeaned civic culture, threatened minorities, contempt for the rule of law and an increasingly ugly public mood. If liberal democracy is to survive, the tide will have to be turned back. The question is: how?

The first essential is to understand the nature of the beast. This is more difficult than it sounds. Most democratic politicians seek popularity, but populism and popularity are not the same. Today’s populism is the descendant of a long line of ancestors. The first unmistakably populist movement in history appeared well over two centuries ago during the later stages of the French Revolution. It was led by Robespierre (Thomas Carlyle’s “sea-green incorruptible”) and the Jacobins who promised a reign of “virtue”. They were inspired by the cloudy prose of Jean-Jacques Rousseau, who believed that mere individuals should be subject to the general will of the social whole and – if necessary – “forced to be free”. As the revolution gathered pace and foreign armies mustered on France’s frontiers, the Jacobins launched the first organised, state-led and ideologically legitimised Terror in history. Chillingly, Robespierre declared, “The people is sublime, but individuals are weak.” That is the cry of populists through the ages. Appropriately, the Terror ended with Robespierre lying on a plank, screaming with pain before he was executed by guillotine.

The French Revolution – which began with the storming of the Bastille and ended with Napoleon’s ascent to an ersatz imperial throne – has an epic quality about it missing from later chapters in the populist story. Ironically, the second chapter, which opened half a century later, was the work of Louis Bonaparte, nephew of the great Napoleon. In 1848 came a second revolution and a second Republic; Louis Bonaparte was elected president by a huge majority. He tried and failed to amend the constitution to make it possible for him to have a second term; and then seized power in a coup d’état. Soon afterwards he became emperor as Napoleon III. (“Napoleon le petit”, in Victor Hugo’s savage phrase.) The whole story provoked one of Karl Marx’s best aphorisms: “History repeats itself; the first time as tragedy and the second as farce.”

There have been plenty of tragedies since – and plenty of farces, too. Trump’s victory was a tragedy, but farcical elements are already in evidence. Erdogan’s victory was even more tragic than Trump’s, but farce is conspicuously absent. The Leave victory in the referendum was tragic: arguably, the greatest tragedy in the three-century history of Britain’s union state. As with Trump, farce is already in evidence – the agitated comings and goings that have followed Theresa May’s loss of her Commons majority; the inane debate over the nature of the Brexit that Britain should seek; and the preposterous suggestion that, freed of the “Brussels” incubus, Britain will be able to conclude costless trade deals with the state-capitalist dictatorship of China and the “America First” neo-isolationists in Washington, DC. Unlike the French farce of Napoleon III’s Second Empire, however, the British farce now in progress is more likely to provoke tears than laughter.


Picture: André Carrilho

Populism is not a doctrine or a governing philosophy, still less an ideology. It is a disposition, perhaps a mood, a set of attitudes and above all a style. The People’s Party, which played a significant part in American politics in the late 19th century, is a case in point. The farmers whose grievances inspired the People’s Party wanted cheaper credit and transport to carry their products to markets in the eastern states. Hence the party’s two main proposals. One was the nationalisation of the railways, to cheapen transport costs; the other was “free silver” – the use of silver as well as gold as currency, supposedly to cheapen credit. Even then, this was not a particularly radical programme. It was designed to reform capitalism, not to replace it, as the largely Marxist social-democratic parties of Europe were seeking to do.

Rhetoric was a different matter. Mary Elizabeth Lease, a prominent member of the People’s Party, declared that America’s was no longer a government of the people by the people and for the people, but “a government of Wall Street, by Wall Street and for Wall Street”. The common people of America, she added, “are slaves and monopoly is the master”.

The Georgian populist Tom Watson once asked if Thomas Jefferson had dreamed that the party he founded would be “prostituted to the vilest purposes of monopoly” or that it would be led by “red-eyed Jewish millionaires”. The People’s Party’s constitutive Omaha Platform accused the two main parties of proposing “to sacrifice our homes, lives and children on the altar of Mammon; to destroy the multitude in order to secure corruption funds from the millionaires”. The party’s aim was “to restore the government of the Republic to the hands of ‘the plain people’ with which class it originated”. Theodore Roosevelt promised “to walk softly and carry a big stick”. The People’s Party walked noisily and carried a small stick. Jeremy Corbyn would have been at home in it.

Almost without exception, populists promise national regeneration in place of decline, decay and the vacillations and tergiversations of a corrupt establishment and the enervated elites that belong to it. Trump’s call to “make America great again” is an obvious recent case. His attacks on “crooked Hillary”, on the courts that have impeded his proposed ban on Muslim immigrants from capriciously chosen Middle Eastern and African countries, on the “fake news” of journalists seeking to hold his administration to account, and, most of all, his attack on the constitutional checks and balances that have been fundamental to US governance for more than 200 years, are the most alarming examples of populist practice, not just in American history but in the history of most of the North Atlantic world.

There are intriguing parallels between Trump’s regime and Erdogan’s. Indeed, Trump went out of his way to congratulate Erdogan on Turkey’s referendum result in April – which gives him the right to lengthen his term of office to ten years, to strengthen his control over the judiciary and to decide when to impose a state of emergency. Even before the referendum, he had dismissed more than 100,000 public servants, including teachers, prosecutors, judges and army officers; 4,000 were imprisoned. The Kurdish minority was – and is – repressed. True, none of this applies to Trump. But the rhetoric of the thin-skinned, paranoid US president and his equally thin-skinned and paranoid Turkish counterpart comes from the same repertoire. In the Turkish referendum Erdogan declared: “My nation stood upright and undivided.” It might have been Trump clamorously insisting that the crowd at his inauguration was bigger than it was.

***

The best-known modern British populists – Margaret Thatcher, Nigel Farage and David Owen – form a kind of counterpoint. In some ways, all three have harked back to the themes of the 19th-century American populists. Thatcher insisted that she was “a plain, straightforward provincial”, adding that her “Bloomsbury” was Grantham – “Methodism, the grocer’s shop, Rotary and all the serious, sober virtues, cultivated and esteemed in that environment”. Farage declared that the EU referendum was “a victory for ‘the real people’ of Britain” – implying, none too subtly, that the 48 per cent who voted Remain were somehow unreal or, indeed, un-British.

On a holiday job on a building site during the Suez War, Owen experienced a kind of epiphany. Hugh Gaitskell was criticising Anthony Eden, the prime minister, on television and in the House of Commons, but Owen’s workmates were solidly in favour of Eden. That experience, he said, made him suspicious of “the kind of attitude which splits the difference on everything. The rather defeatist, even traitorous attitude reflected in the pre-war Apostles at Cambridge.” (Owen voted for Brexit in 2016.)

Did he really believe that Bertrand Russell, John Maynard Keynes and George Moore were traitorous? Did he not know that they were Apostles? Or was he simply lashing out, Trump-like, at an elite that disdained him – and to which he yearned to belong?

Thatcher’s Grantham, Farage’s real people and David Owen’s workmates came from the same rhetorical stable as the American populists’ Omaha Platform. But the American populists really were plain, in their sense of the word, whereas Thatcher, Farage and Owen could hardly have been less so. Thatcher (at that stage Roberts) left Grantham as soon as she could and never looked back. She went to Somerville College, Oxford, where she was a pupil of the Nobel laureate Dorothy Hodgkin. She married the dashing and wealthy Denis Thatcher and abandoned science to qualify as a barrister before being elected to parliament and eventually becoming prime minister. Farage worked as a metals trader in the City before becoming leader of the UK Independence Party. Owen went to the private Bradfield College before going up to Cambridge to read medicine. Despite his Welsh antecedents, he looks and sounds like a well-brought-up English public school boy. He was elected to parliament in 1966 at the age of 28 and was appointed under-secretary for the navy at 30. He then served briefly as foreign secretary in James Callaghan’s miserable Labour government in the 1970s.

Much the same is true of Marine Le Pen in France. She is a hereditary populist – something that seems self-contradictory. The Front National (FN) she heads was founded by her father, Jean-Marie Le Pen – Holocaust denier, anti-Semite, former street brawler and sometime Poujadist. In the jargon of public relations, she has worked hard to “de-toxify” the FN brand. But the Front is still the Front; it appeals most strongly to the ageing and insecure in the de-industrialised areas of the north-east. Marine Le Pen applauded the Leave victory in Britain’s referendum – she seeks to limit immigration, just as Ukip did in the referendum and as the May government does now.

Above all, the Front National appeals to a mythologised past, symbolised by the figure of Joan of Arc. Joan was a simple, illiterate peasant from an obscure village in north-eastern France, who led the French king’s forces to a decisive victory over the English in the later stages of the Hundred Years War. She was captured by England’s Burgundian allies, and the English burned her at the stake at the age of 19. She was beatified in 1909 and canonised in 1920. For well over a century, she has been a heroine for the Catholic French right, for whom the revolutionary triad of liberté, egalité, fraternité is either vacuous or menacing.

***

The past to which the FN appeals is uniquely French. It is also contentious. A struggle over the ownership of the French past has been a theme of French politics ever since the French Revolution. But other mythologised pasts have figured again and again in populist rhetoric and still do. Mussolini talked of returning to the time of the Roman empire when the Mediterranean was Mare Nostrum. Trump’s “Make America great again” presupposes a past when America was great, and from which present-day Americans have strayed, thanks to Clintonesque crooks and the pedlars of fake news. “Take back control” – the mantra of the Brexiteers in the referendum – presupposes a past in which the British had control; Owen’s bizarre pre-referendum claim that, if Britain left the EU, she would be free to “rediscover the skills of blue water diplomacy” presupposed a time when she practised those skills. Vladimir Putin, another populist of sorts, is patently trying to harness memories of tsarist glory to his chariot wheels. Margaret Thatcher, the “plain, straightforward provincial” woman, sought to revive the “vigorous virtues” of her Grantham childhood and the “Victorian values” that underpinned them.

As well as mythologising the past, populists mythologise the people. Those for whom they claim to speak are undifferentiated, homogeneous and inert. Populists have nothing but contempt for de Tocqueville’s insight that the ever-present threat of majority tyranny can be kept at bay only by a rich array of intermediate institutions, including townships, law courts and a free press, underpinned by the separation of powers.

For populists, the threat of majority tyranny is a phantom, invented by out-of-touch and craven elitists. Law courts that stand in the way of the unmediated popular will are “enemies of the people”, as the Daily Mail put it. There is no need to protect minorities against the tyranny of the majority: minorities are either part of the whole, in which case they don’t need protection, or self-excluded from it, in which case they don’t deserve to be protected.

Apparent differences of interest or value that cut across the body of the people, that divide the collective sovereign against itself, are products of elite manipulation or, in Thatcher’s notorious phrase, of “the enemy within”. For there is a strong paranoid streak in the populist mentality. Against the pure, virtuous people stand corrupt, privileged elites and sinister, conspiratorial subversives. The latter are forever plotting to do down the former.

Like pigs searching for truffles, populists search for subversives. Inevitably, they find what they are looking for. Joe McCarthy was one of the most squalid examples of the populist breed: for years, McCarthyism was a baneful presence in Hollywood, in American universities, newspaper offices and in the public service, ruining lives, restricting free expression and making it harder for the United States to win the trust of its European allies. The barrage of hatred and contempt that the tabloid press unleashed on opponents of Theresa May’s pursuit of a “hard” Brexit is another example. Her astounding claim that a mysterious entity known as “Brussels” was seeking to interfere in the British general election is a third.

As the Princeton political scientist Jan-Werner Müller argues, all of this strikes at the heart of democratic governance. Democracy depends on open debate, on dialogue between the bearers of different values, in which the protagonists learn from each other and from which they emerge as different people. For the Nobel laureate, philosopher and economist Amartya Sen, democracy is, above all, “public reasoning”; and that is impossible without social spaces in which reasoning can take place. Populism is singular; democracy is plural. The great question for non-populists is how to respond to the populist threat.

Two answers are in contention. The first is Theresa May’s. It amounts to appeasement. May’s purported reason for calling a snap general election was that the politicians were divided, whereas the people were united. It is hard to think of a better – or more frightening – summary of the spirit of populism. The second answer is Emmanuel Macron’s. For the moment, at least, he is astonishingly popular in France. More important, his victory over Le Pen has shown that, given intelligence, courage and generosity of spirit, the noxious populist tide can be resisted and, perhaps, turned back. 

David Marquand’s most recent book is “Mammon’s Kingdom”: an Essay on Britain Now” (Allen Lane)