In 1981 François Mitterrand was elected president of France, promising to pave the “French road to socialism”. His “110 propositions for France” included commitments to nationalise major industries, boost state investment and raise taxes on the wealthy.
The reception from the business community was hostile. Financial markets panicked. Investors sold French assets en masse, and France lost about $5bn in capital flight. With the franc pegged to the Deutschmark, in addition to a large trade deficit and high borrowing costs, the government was unable to stem the tide. Mitterrand was soon faced with a choice between imposing capital controls and implementing austerity. He chose austerity and the French road to socialism turned into a cul-de-sac.
Mitterrand’s failure is often presented as evidence of socialism’s impossibility in our globalised, free-market world. Governments must implement “market-friendly” policies or investors will move their money elsewhere. In the words of the former chair of the Federal Reserve Alan Greenspan, “we are fortunate that, thanks to globalisation, policy decisions… have been largely replaced by global market forces”.
Adam Tooze has referred to these investors as the “bond vigilantes” – asset holders who have the power to shape policy under the threat of capital flight. If a government takes an insufficiently supportive stance towards the free market, the bond vigilantes can sell its bonds and watch its borrowing costs soar. These problems are especially acute in the global South, where many countries borrow in foreign currencies, raising the risk of capital flight.
The present case in point is Argentina, which recently announced it would be deferring payment on over $100bn worth of debt. To make matters worse, Argentina is in the middle of a general election, and the left-wing Peronist candidate Alberto Fernandez is the front-runner. Fernandez’s fiery rhetoric on the economy – and the widespread assumption that he would impose capital controls – is spooking international investors.
The situation is all the more troubling for investors because the country has defaulted on its debts eight times. After the last episode in 2014, Argentina received a bailout from the IMF conditional upon the implementation of pro-market reforms. Today, it remains under the IMF’s tutelage.
Like other economies in the global South, including Ghana and Zambia, international institutions have allied with the bond vigilantes to bludgeon Argentina into imposing policies that benefit international investors and harm working people. The threat that the Argentinian government might reject the wishes of the bond markets and defy the international financial institutions has caused a stir among investors.
They have sought to discipline the struggling state into submission by selling Argentinian assets. Bond yields have spiked and the currency has depreciated, making borrowing much more expensive. Without existing help from the IMF, Argentina would struggle to access capital markets at all.
But Fernandez is determined that Argentina will not suffer the same fate as Mitterrand’s France. If elected, he will impose capital controls, stemming currency outflows through either quantitative restrictions or high taxes on currency transactions.
Investors often find their way around these restrictions using illicit financial networks, tax havens and shrewd financial advisers. But recent research from the IMF has challenged a decades-long consensus about the ineffectiveness of capital controls. Many economists now agree that capital controls are necessary – and even desirable – during sovereign debt crises.
It is unlikely that Argentina will be able to escape the current crisis on its own. States in debt distress of this scale need cheap, long-term, unconditional lending to fund investment that can boost productivity and competitiveness. But the structure of the international system – built in the interests of the bond vigilantes – militates against this.
The Argentinian crisis is yet another indication that the international financial architecture that governs the global economy is in need of deep reform. From Greece to Argentina to Ghana, too many democracies are being subverted by the bond vigilantes. Countering the very real threats to politics all over the world requires building democracies that cannot be held to ransom by the power of international finance.
This article appears in the 11 Sep 2019 issue of the New Statesman, Cameron’s legacy of chaos