The New Statesman Essay - The decay of the free market</B>

The IMF and the World Bank carry on as if nothing had changed, but it is already clear that we have

In Buenos Aires last August, I met the last finance minister to serve the government of the dictator Juan Peron. I asked him what had been the most important change in his country during the past 50 years. "The decline of the army as a political force," he replied. And the next major development? The elegant old man smiled. "The decadence of market power."

Since that conversation, market power has gone into retreat in many parts of the world. As the old man foresaw, International Monetary Fund policies, which aimed for stability in Argentina's public finances, destabilised the country politically, triggered a middle-class revolt and created near-anarchy. The Argentinian meltdown has sent tremors throughout Latin America, with even populist rulers such as Hugo Chavez of Venezuela suddenly insecure as power shifts to the streets. In Japan, a 1930s-style debt deflation is likely to result in the nationalisation, in effect, of the banking system.

In the United States itself, the Bush administration has unceremoniously shredded the Washington consensus on the virtues of global free trade by imposing tariffs on imported steel; Alan Greenspan, the chairman of the Federal Reserve, has gone for a hyper-Keynesian policy of reflation at any cost; and defence spending, as well as tax cuts, threatens the federal surplus. Monetary and fiscal rectitude may be all very well for countries such as Argentina; it counts for nothing when the world's largest economy is at risk. Governments may still bow to the icons of the free market, but their actions tell a different story. Throughout the world, market forces are being subordinated to the imperatives of war and politics.

This will not surprise anyone with a smattering of history. The fantasy that the world could become one big free market could be indulged only in a time of boom. I am confident that, a few years from now, there will be not a single person who admits to having ever entertained such a ridiculous delusion. Yet with political thinking stuck between the swivel-eyed enthusiasms of the free- market right and the befogged respectability of the centre left, we have hardly begun to consider what the decay of market power will mean for the world.

We can make a start by clearing our minds of cant about globalisation. We need to distinguish sharply and clearly between the pressure for a worldwide free market and the process of globalisation. Contrary to conventional wisdom, the two do not move in the same direction, but rather the reverse. The global free market is a political project that is not much more than a decade old; globalisation dates back at least to the late 19th century, when transatlantic telegraph cables provided, for the first time, an instant link between markets in Europe and North America.

Properly understood, globalisation means nothing more than the increasing interconnection of world events, created by technologies that abolish or curtail time and distance. Because it is driven by new technologies, it is a wholly inexorable process. One of its by-products is the spread of the weapons of mass destruction that so urgently - and to my mind rightly - concern the Bush administration. Determined to concentrate on the threats to US national security that flow from the diffusion of destructive technologies, Washington is losing interest in projecting its model of capitalism on to other countries. In this, as in other contexts, the impact of globalisation is to undermine the worldwide free market.

Last year's attacks on Washington and New York were carried out with simple tools that are widely available; but the world that 11 September revealed is one in which technologies of enormous destructive potential are slipping from the control of states. One must presume that al-Qaeda lacks nuclear and biological warfare capability, because if it had such weapons, it would have used them by now. But there can be no doubt that al-Qaeda and the successor networks that are surely springing up in its wake will do all they can to acquire such a capability. Stopping them will be an extremely formidable task: the knowledge needed to make these weapons is dispersed in hundreds of universities and thousands of commercial enterprises, and the technical processes involved are becoming cheaper by the day.

But the difficulties of controlling the spread of destructive technologies are magnified in the chaotic environment created by weakened governments and uncontrolled capital flows. In a semi-anarchic global market, it is almost impossible to track terrorist funds, or prevent organised crime becoming a channel for the transmission of potentially dangerous materials. Although our politicians have yet to admit it, the war on terrorism cannot be prosecuted effectively so long as the global market remains as unregulated as it is today.

If the US is quietly shelving the programme of worldwide trade and financial deregulation that so energised it over the past decade, the IMF and the World Bank have yet to notice. They continue to chant the market mantras of the 1980s and 1990s.

The reason is not just institutional inertia. The global free market still has a powerful ideological appeal. Policies in transnational institutions are still shaped by the belief that there is an ideal type of market economy to which all actually existing economies are slowly evolving. Like the communists of former times, who spent their lives in the delusion that they were the vanguard of a new era in history, the bureaucratic missionaries of the IMF and the World Bank see themselves as the midwives of a new global economy. But whereas it is certain that economic activity throughout the world will become ever more closely interlinked, it is no less certain that the world will never converge on a single economic system.

The world's diverse economies are outgrowths of different patterns of family life, religious beliefs and political histories. Economic systems compete with one another, but it is rare for economic factors to decide their success or failure. War and resultant shifts of regime are usually more important. Economic failings did not end Soviet central planning; the military challenge of Ronald Reagan's Star Wars, together with the political challenge of nationalism in Poland and the Baltic states, was far more important. In much the same way, we can be sure that the brittle structures of the global free market will not survive the crises and dislocations of a new era of war.

The world is not evolving into a single type of market economy. Market individualism remains only one kind of economic culture - and not one that globalisation necessarily favours. On the contrary, it is often groups animated by what are conventionally seen as premodern values that do best. In recent years, the informal banking systems of many Asian and Islamic countries have expanded throughout the world. Relying on trust rather than contracts, and held together by religious and clan loyalties, these community-based credit unions have enabled immigrants to survive and prosper in many countries. They have also sometimes served as conduits for funds that end up in the hands of groups such as al-Qaeda. Globalisation has no tendency to strengthen individualist values. Partly for that reason, there has never been any reason to believe that it will lead to the universal reach of the free market.

Defenders of neoliberal orthodoxy bang on apocalyptically about the disastrous consequences if the global economic regime breaks down. What is actually happening is a reversion to historical normalcy.

The international landscape at the start of the 21st century has a good deal in common with that in the last decades of the 19th century. As in the 19th century, international conflicts are rooted in religious and ethnic enmities and in competition for natural resources, rather than in political ideologies. Now, as then, the great powers act partly in concert and partly as strategic rivals. Where British international hegemony in the late 19th century was based on naval power, America's global dominance today rests on its unchallengeable superiority in high-tech military action.

But this does not, as is often argued, make the US uniquely and unassailably strong. Unlike 19th-century Britain, which exported capital throughout the world, the US - the world's largest debtor - is crucially dependent on inflows of capital from other countries. Moreover, though one can scarcely exaggerate its lead in military hardware, this is unlikely to be decisive in the asymmetric warfare which at present chiefly threatens it. A new version of Reagan's scheme for a space-based missile defence system could not have prevented 11 September, nor will it stop far worse attacks involving small, home-made nuclear devices. Moreover, even America's unchallengeable lead in the most expensive military assets will be eroded over time. Pax Americana may prove to be no more durable than Pax Britannica.

Unlike some in Europe, I do not welcome a weakening of US power. A multipolar world may be fine in theory: in present circumstances, it is a recipe for international anarchy. An American imperium is the only form of global governance on offer - and it is surely more benign than any alternative one can realistically imagine.

But if there is not to be a rerun of conflicts of the kind that led to the First World War, the US will need to exercise extraordinary restraint. It will have to renounce the attempt to make over the world in its own image and accept that there will always be a diversity of regimes and economic systems, some of which will be alien or hostile to American values. If its vast military assets are to be deployed, that should be in defence of clear and definite national interests, not as part of a messianic crusade to save the world.

This is one respect in which the Bush administration cannot be faulted. Whatever one may think of some of the rhetoric that has accompanied it, the actual conduct of the war on terrorism so far has been prudent and restrained. Better the Hobbesian clarity of Donald Rumsfeld than the unpredictability and bombast of Bill Clinton.

The real worry concerns the next phase of the war. An attack on Iraq may be justified in order to prevent Saddam Hussein building up his armoury of weapons of mass destruction, but it is fraught with fearful risks. Unlike Afghanistan, Iraq is a well-entrenched modern police state. Unlike the Taliban, Saddam Hussein may already possess certain weapons of mass destruction - which he will not hesitate to use in a conflict he cannot hope to survive. (How many US body bags is George Bush's government willing to accept as the price of completing unfinished business in Iraq?)

The impact on the Middle East of an American-led attack on Iraq is incalculable. Will governments that support it, or seem to acquiesce to it, be able to suppress popular dissent? Or will a pre-emptive American assault on Iraq trigger regime changes in other countries? One significant reason why George Bush Sr did not press on to Baghdad was a fear that toppling Saddam might lead to the fragmentation of the Iraqi state. Is that fear less well founded today? An assault on Iraq could well end any hope - however faint - for a peaceful resolution of the Palestinian question. In fact, the clear danger is that it could spark a conflagration in the Middle East.

The larger issue that is posed by these questions concerns the conditions of peace in a time when globalisation and state failure have gone hand in hand. I have compared current circumstances to those of the late 19th century, but what is without precedent is the global reach of organised violence that is beyond any state control. A good deal of terrorist activity remains national or regional in focus, but networks such as al-Qaeda are distinctive and novel in that they can project themselves worldwide, and thrive in places where the state is corroded or collapsed.

Unconventional warfare of this new globalised variety cannot be dealt with by forcing changes of regime in countries where the state has failed. The result is merely to replace one powerless government by another. This much is clear in Afghanistan. Neither the allied military forces nor the new Afghan government has much leverage over the day-to-day conduct of the war on the ground, which is determined largely by shifting alliances among the country's warlords. There cannot be peace in Afghanistan without an effective state; but creating a modern state in countries where it has been destroyed, or never existed, cannot be done in a day.

The decay of market power that is now under way creates a new set of conditions for which mainstream opinion is ill-prepared. Politicians on both left and right have succumbed to the illusion that globalisation is leading the world into an era of peace and plenty, in which the state will play a diminished part.

The reality is almost the opposite. Unchecked globalisation results in a semi-anarchic environment that threatens even the strongest states. In a natural and inevitable counter-movement, we are entering a new era of state power.

John Gray is professor of European thought at the London School of Economics. His next book, Straw Dogs: thoughts on humans and other animals, will be published by Granta in September