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The most basic tenet undergirding neoliberal economics is that free market capitalism—or at least some close approximation to it—is the only effective framework for delivering widely shared economic well-being. On this view, only free markets can increase productivity and average living standards while delivering high levels of individual freedom and fair social outcomes: big government spending and heavy regulations are simply less effective.
These neoliberal premises have dominated economic policymaking both in the United States and around the world for the past forty years, beginning with the elections of Margaret Thatcher in the United Kingdom and Ronald Reagan in the States. Thatcher’s dictum that “there is no alternative” to neoliberalism became a rallying cry, supplanting what had been, since the end of World War II, the dominance of Keynesianism in global economic policymaking, which instead viewed large-scale government interventions as necessary for stability and a reasonable degree of fairness under capitalism. This neoliberal ascendency has been undergirded by the full-throated support of the overwhelming majority of professional economists, including such luminaries as Nobel Laureates Milton Friedman and Robert Lucas.
In reality neoliberalism has depended on huge levels of government support for its entire existence. The global neoliberal economic order could easily have collapsed into a 1930s-level Great Depression multiple times over in the absence of massive government interventions. Especially central to its survival have been government bailouts, including emergency government spending injections financed by borrowing—that is, deficit spending—as well as central bank actions to prop up financial institutions and markets teetering on the verge of ruin.
Bailouts have therefore not only repeatedly rescued neoliberal capitalism during periods of crisis, but they have also, as a result, reinforced neoliberalism’s most malignant tendencies. In 1978, just prior to neoliberalism’s rise, the CEOs of the largest 350 U.S. corporations earned $1.7 million, 33 times the $51,200 earned by the average private-sector non-supervisory worker. As of 2019 the CEOs were earning 366 times more than the average worker, $21.3 million versus $58,200. Under neoliberalism, in other words, the pay for big corporate U.S. CEOs increased more than ten-fold relative to the average U.S. worker. This curious conjunction—theoretical disdain for government alongside practical reliance on it—has amounted to champagne socialism for big corporations, Wall Street, and the rich and “let-them-eat-cake” capitalism for most everyone else.
The COVID-19 pandemic and recession powerfully illustrated how neoliberalism works in practice. During the pandemic, employment and overall economic activity throughout the world fell precipitously, as major sections of the global economy were forced into lockdown mode. According to the International Monetary Fund, overall economic activity (GDP) contracted by 3.5 percent in 2020 in a “severe collapse . . . that has had acute adverse impacts on women, youth, the poor, the informally employed and those who work in contact-intensive sectors.” But during the same period, global markets soared. In the United States, nearly 50 percent of the entire labor force filed for unemployment benefits between March 2020 and February 2021. However, over this same period, the prices of Wall Street stocks—as measured, for example, by the Standard and Poor’s 500 index, a broad market indicator—rose by 46 percent, one of the sharpest one-year increases on record. Moreover, this increase did not simply reflect the U.S. stock market recovering from the pandemic and lockdown. As of February 2021, the Standard and Poor’s 500 index was also 38 percent higher than two years prior, in March 2019, nine months before COVID-19 had been recognized as a human pathogen. And the 2020 stock market ascent began months before there was any clear evidence that the economy was recovering from the lockdown. All these gains are the result of large-scale government interventions: bailouts were given, first and foremost, to boost financial markets and to help the rich.
Textbook Neoliberalism vs. Bailouts 101
In textbook economics the movements of financial markets are supposed to reflect underlying conditions in the real economy where goods and services are produced, workers are hired and paid, and companies profit or don’t in attempting to sell their products. In this scenario, when companies lay off workers, workers lose income and cut back on spending, which means companies are likely to face difficulties selling their products. Their profits should fall as a result. As unemployment rises and profits fall, the value of these companies, as expressed in their stock market prices, should decrease. This has not been the case over the past year—as disparities grew between conditions in the real economy and financial markets—because governments undertook massive bailout operations in the face of the COVID-19 pandemic.
In March 2020, with Donald Trump in office and Republicans controlling the U.S. Senate, the federal government enacted the CARES Act, a $2 trillion stimulus program equal to about 10 percent of U.S. GDP. More than 40 percent of the total funding—about $850 billion—went to loans and grants for businesses, with only weak stipulations as to how these funds would be used. For example, large businesses could receive a loan and still lay off up to 10 percent of their employees, while smaller businesses could receive loans or grants without committing to retaining any employees. At the discretion of the Treasury Secretary, corporations could even engage in stock buybacks to boost their share prices with the funds. The CARES Act provided one-time cash support for people earning $75,000 or less and significant, though temporary, unemployment insurance support for laid-off workers. In December the CARES Act was followed by the 2020 COVID Relief Act, budgeted at $900 billion, another 4 percent injection of GDP. About 33 percent of the Act’s funding went to an additional round of credit and grants to businesses.
Together the CARES and COVID Relief Acts amounted to about 14 percent of U.S. GDP in 2020, an unprecedented expansion of federal government deficit spending in peacetime. Yet these massive stimulus measures were exceeded by nearly $4 trillion spent on Federal Reserve interventions—nearly 20 percent of U.S. GDP—to ensure Wall Street stayed afloat. Most significantly, the Federal Reserve bought financial assets—including U.S. Treasury bonds, mortgage-backed securities, and even corporate junk bonds held by money market funds, private equity dealers, and banks—to ensure that these firms were well-stocked to survive the crisis. This gargantuan cash injection propped up the stock market and other U.S. financial markets, which in turn suppressed incipient panic and launched a spike in stock prices. The stock market rise was further fueled by the Federal Reserve pushing the short-term interest rate it controls to near-zero. Thus, Wall Street players could borrow cheap money to purchase stocks.
The policy interventions in other high-income countries followed broadly similar trajectories during the pandemic. The Bank of International Settlements (BIS) described these measures as “unprecedented’ in “size and scope.” As in the United States, the largest proportionate interventions involved directly bolstering financial markets through measures such as purchasing assets and guaranteeing fragile loans. The BIS estimated that these interventions exceeded 30 percent of GDP in Germany and Italy, over 20 percent in Japan, and around 15 percent in the UK and France.
It is true that these 2020 global bailout operations were triggered by the COVID pandemic, not by the breakdown of neoliberal economic policies. But the same bailout operations deployed to counteract the COVID lockdowns have also been mobilized regularly and with increasing force since the beginning of the neoliberal era in the early 1980s.
Indeed, it was only thirteen years ago, in 2008, that Wall Street hyper-speculation brought the global economy to its knees during the Great Recession. To prevent a 1930s-level depression at that time, economic policymakers throughout the world—including in the United States, the European Union, Japan, South Korea, China, India, and Brazil—enacted extraordinary measures to counteract the crisis Wall Street created. As in 2020, these measures included financial bailouts, monetary policies that pushed central bank-controlled interest rates close to zero, and large-scale fiscal stimulus programs financed by major expansions in central government deficits.
In the United States, the fiscal deficit reached $1.4 trillion in 2009, equal to 9.8 percent of GDP. The deficits were around $1.3 trillion in 2010 and 2011 as well, amounting to close to 9 percent of GDP in both years. These were the largest peacetime deficits prior to the 2020 COVID recession. The federal government’s fiscal deficit had averaged 1.7 percent GDP in the fifty-eight years prior, between 1950 and 2008. As a share of GDP, the deficit from 2009 to 2011 spiked more than five-fold relative to the post World War II average.
As with the 2020 crisis, the Federal Reserve’s interventions to prop up Wall Street and corporate America were even more extensive than the federal government’s deficit spending policies. A careful 2017 study by Better Markets estimated the overall level of financial market support between 2009 and 2012 at $12.2 trillion, about 20 percent of GDP per year. Moreover, this total figure does not include the full funding mobilized in 2009 to bail out General Motors, Chrysler, Goldman Sachs, and the insurance giant AIG—all of which were facing death spirals at that time. It is hard to envision the form in which U.S. capitalism might have survived at that time if, following true free market precepts as opposed to the actual practice of neoliberal champagne socialism, these and other iconic U.S. firms would have been permitted to collapse.
Similar patterns prevailed in Europe during the Great Recession. Among the then twenty-seven countries of the EU, fiscal deficits for 2009 averaged 6.8 percent of GDP, compared with a 1.8 percent average between 2001 and 2007. According to the EU’s Stability and Growth Pact, established in 1997 as a means of enshrining a neoliberal project throughout the continent, annual fiscal deficits were not permitted to exceed 3 percent of GDP other than in severe recessions. Such recessions were expected to be few and far between, with the added expectation that adhering to neoliberal policy precepts was the best way to ensure this.
The European Central Bank also pursued a massive bailout program to buttress the European financial markets. The then-President of the ECB Jean-Claude Trichet described these measures as “an exceptional set of non-standard policy tools” that had to be deployed because “speculation and financial gambling had run rife.” The measures included driving down the Central Bank’s policy interest rate to almost zero and providing what Trichet described as “unlimited” amounts of cash to distressed European banks at the near-zero interest rate.
Bailout operations of this sort have occurred with clockwork regularity throughout the neoliberal era, beginning with Reagan. In 1983, under Reagan, the U.S. government reached a then-peacetime high for federal deficit spending, 5.7 percent of GDP. At the time, the U.S. and global economy were still mired in the second phase of the double-dip recession that lasted from 1980 to 1982, while Reagan faced a re-election campaign for 1984. Of course, both as a political candidate and throughout his presidency, Reagan preached that big government was the problem, not the solution. Yet Reagan did not hesitate to flout his own rhetoric in overseeing a massive fiscal bailout when he needed it.
After the 1983 bailout, we then saw global stock market prices fall even more sharply than in 1929, on Black Monday in October 1987; the savings-and-loan crisis in 1989 and 90; the “emerging markets” collapse of 1997–1998; and the bursting of the dot-com Wall Street bubble in 2001. Each of these would have easily produced a 1930s-style meltdown without full-scale government bailout operations.
Indeed, in February 1999, Time magazine ran an effusive cover story in the immediate aftermath of the emerging markets collapse that brought down, among others, Long-Term Capital Management, the super-hedge fund led by two Nobel laureates specializing in finance. The story called the then-Federal Reserve Chair Alan Greenspan, Treasury Secretary Robert Rubin, and Deputy Secretary of the Treasury Lawrence Summers “the Committee to Save the World,” due to their ability to execute global bailout operations. It described how “a hedge fund blessed with two Nobel prizewinners blew up in an afternoon, nearly taking Wall Street with it,” and “Brazil is just hanging on, which means so is the rest of Latin America,” and yet, “these guys” kept “a near thing from becoming a disaster.”
Greenspan, Rubin, and Summers succeeded in propping up global neoliberalism for a mere two years more before the dot-com bubble required yet another bailout. But the 2001 intervention ended up being just a warmup to the 2008–09 rescue operation. Still, Greenspan, Rubin, and Summers remained ardent defenders of the global neoliberal order, apparently seeing no contradiction between the persistent requirement to bail out neoliberalism from impending disasters and their bedrock belief that “trying to defy global market forces is in the end futile.”
Their perspective was shared then and continues to be shared today by the overwhelming majority of practicing economists—inside academia and out. For example, in his highly influential studies of the causes of the 1930s Great Depression, the late Nobel-prize winning economist and ardent free-market proponent Milton Friedman argued that the U.S. Federal Reserve should have intervened after the 1929 Wall Street crash to stabilize the banking system. The Federal Reserve, he contended, could operate as a “lender of last resort”—that is, it could provide bailout funds to the failing banks when no private lender was willing to extend them credit. Yet Friedman never questioned how this observation might conflict with his overall position that capitalist economies operate most effectively with minimal levels of government intervention, including a minimal role for the Federal Reserve.
Similarly, Robert Lucas—another highly influential Nobel Prize-winning economist and free market proponent—commented during the 2008 global financial meltdown that he supported lender of last resort bailouts at that time, since “everyone is a Keynesian in a foxhole.” But, like Friedman, Lucas never integrated this position into his analytic models that purport to demonstrate that capitalist economies work best in the absence of government intervention. Following the example of such major contemporary figures as Friedman and Lucas, there is not, to our knowledge, a single mainstream economics textbook that recognizes bailouts as an indispensable policy tool for enabling capitalism to continue functioning.
The Minsky “Wall Street Paradigm”
There have been economists outside of the mainstream who clearly argue the fundamental importance of bailout policies. The most important figure in this camp is Hyman Minsky. Minsky spent most of his academic career at Washington University in St. Louis and remained professionally active until his death in 1996—he was his generation’s most insightful analyst of financial markets and financial crises.
Minsky contended that bailouts are fundamental to capitalism within the context of his overall approach to macroeconomics, which he termed the “Wall Street Paradigm.” Within his Wall Street Paradigm, Minsky formulated a “financial instability hypothesis” through which he explained how allowing financial markets to operate freely inevitably produces severe downturns and crashes. These occur not as a result of miscalculations and policy errors, though such miscalculations and errors are certainly prevalent. For Minsky, financial instability and crises emerge out of the logic of capitalist market activity itself.
Minsky’s key to understanding financial instability was to trace the shifts in investors’ psychology as the economy moves out of a period of crisis and recession (or depression) and into a phase of rising profits and growth. Coming out of crises, investors tend to be cautious, as the just-ended recession will have left many of them clobbered. For example, they will hold large cash reserves as a cushion to protect against future crises.
But as the economy emerges from its slump and profits rise, investors’ expectations become increasingly positive. They grow eager to pursue highly speculative ventures because of the promise of bountiful returns, while also becoming more willing to let their cash reserves dwindle, as idle cash earns no profits whatsoever. But these moves also weaken investors’ defenses against the next downturn. This is why, in Minsky’s view, economic upswings without regulations inevitably encourage speculative excesses, which cause financial bubbles. In an unregulated environment, Minsky explained, the only way to eliminate bubbles is to let them burst. Financial markets then fall into a crisis, resulting in a recession or depression.
Here we reach one of Minsky’s crucial insights: financial crises and recessions serve a purpose in the operations of a free-market economy, even while they wreak havoc on the lives of hundreds of millions of innocents who never invest a dime on Wall Street. His point is that without crises, a free-market economy has no way of discouraging investors’ natural proclivities toward greater risks in pursuit of higher profits.
In the wake of the Great Depression, the British economist John Maynard Keynes led the intellectual revolution that aimed to design a policy framework within capitalism that could supplant financial crises as the system’s built-in regulator. This was the context in which the post-World War II system of big-government capitalism was created. The package included two basic elements: regulations designed to limit speculation and channel financial resources into socially useful investments, such as affordable housing; and government bailout operations to prevent 1930s-style depressions when crises did break out.
Minsky saw this system of regulations and bailout operations as largely successful. From the end of World War II to the mid-1970s, markets in the United States and abroad were much more stable than in any previous historical period. But even during the New Deal years and the initial post-World War II period, financial market titans around the world fought vehemently to eliminate, or at least defang, the regulations. By the 1970s almost all politicians—Democrats and Republicans alike—had become compliant. The regulations were initially weakened, then abolished altogether in 1999 under President Bill Clinton and the guidance of his top economic advisors—Alan Greenspan, Robert Rubin, and Lawrence Summers.
Shadow Banking and Financialization
For Minsky, the consequences were predictable. But here we come to another of his major insights: in the absence of a complementary financial regulatory system, bailouts’ effectiveness will diminish over time. This is because bailouts, just like financial crises, are double-edged. Though they prevent depressions, they also limit the costs of financial excesses to speculators. As soon as the next economic expansion begins to gather strength, financial market players will pursue profit opportunities as they had during the previous cycle.
As bailouts have prevented full-scale market crashes—and thereby allowed market speculators to escape the full consequences of their excesses—financial institutions and market trading have, accordingly, grown exponentially under neoliberalism. For example, as of 1980, stock market trading in U.S. markets was double what corporations spent on productive investments, such as machines, buildings, land, and R&D. As of 2019 U.S. stock market trading had ballooned to 30 times the amount spent on productive investments. In other words, the ratio of stock market trading to productive investments has increased fifteen-fold in the neoliberal era.
A similarly explosive expansion has occurred in what is termed the “shadow banking” system in the United States under neoliberalism. The shadow banks include a range of institutions—including mutual funds, holding companies, money market funds, and brokerage houses—that lend money, provide readily accessible funds for account holders, and engage in activities that closely parallel those of traditional banks. Shadow banks, however, are allowed to operate under much weaker regulations than traditional banks. In 1980 the shadow banking system barely existed. Mutual funds, the largest category of such institutions, owned less than 0.3 percent of assets held by all U.S. financial institutions, including traditional banks. As of 2019 mutual funds alone held more than 16 percent of all U.S. financial institutions’ assets. In total the shadow banking sector accounted for 36 percent of all U.S. financial institutions’ assets.
Indeed, a new term has entered the economics lexicon—financialization—that is meant to evoke these patterns of explosive growth in shadow banking and financial market trading over the neoliberal era. Financialization has occurred precisely because weak financial regulations allow speculative bubbles to emerge as a regular feature of neoliberal capitalism, while bailout operations prevent these bubbles from collapsing into full-scale 1930s-level economic disasters.
Minsky’s Wall Street paradigm certainly does not address all the afflictions of neoliberal capitalism. In particular his model neglects the vast disparities in income, wealth, and power that are just as endemic to neoliberalism as are its tendencies toward financial instability. He was also working before ecological issues, climate change in particular, were widely understood as matters that macroeconomics must address. Nevertheless, his framework remains a highly valuable tool for clarifying the big-picture economic policy alternatives before us today, forty years into the neoliberal era.
In fact, contrary to Margaret Thatcher, three scenarios are possible. First, we can allow the reign of neoliberalism to continue. This is the path of least resistance, as it would proceed to shower rewards on financial titans and the wealthy. Of course, as we have seen, staying the course with neoliberalism will require regular bailout interventions. The scale of any such future bailouts will likely continue expanding, as the system’s vulnerabilities will continue deepening through financialization. But we can be certain that there will never be a shortage of economists prepared to defend neoliberalism under these circumstances and even nominate themselves to join a present-day Committee to Save the World.
The two alternatives would entail abandoning the core premise of neoliberalism: champagne socialism for big corporations, Wall Street, and the rich; and “let-them-eat-cake” capitalism for most everyone else. We can call the first of these two alternatives practice-what-you-preach capitalism. Under this alternative, the government must embrace the precepts of free market economics not only when things are going well for big capital and Wall Street, but also when they are going miserably. When big corporations and Wall Street firms face collapse due to their speculative excesses or bad decisions—including failing to maintain sufficient cash reserves to carry them through economic downswings—then these firms will be allowed to fail. Through allowing firms, even big firms, to fail, we would return to a self-regulating variant of capitalism. The guiding principle here is that when capitalists realize that they too must bear the full consequences of bad decisions, they will make fewer of them.
The problem with practice what you preach capitalism is that it has been tried, and the results are well-documented. It was under this approach that financial markets collapsed regularly throughout most of the history of capitalism. Charles Kindleberger described this pattern in his classic 1978 work Manias, Panics, and Crashes, in which he framed his historical analysis within Minsky’s Wall Street Paradigm. Kindleberger’s discussion begins with the notorious South Sea Bubble in 1720, during which the South Sea Company, a failing British slave-trading firm, managed to massively, if briefly, profit from obtaining inside information on how the British government was managing its debt. Kindleberger reveals that between this 1720 South Sea bubble fiasco and the 1929 Wall Street crash, financial crises occurred in the United States and Europe an average of approximately every 7.5 years (a pattern recognized 100 years earlier by Karl Marx). The press reports of the crises that spanned the roughly 200 years include: “One of the fiercest financial storms of the century,” in Britain in 1772; in Germany in 1857, “So complete and classic a panic has never been seen before”; and in 1929 in the United States, “The greatest cycle of speculative boom and collapse in modern times—since, in fact, the South Sea Bubble.”
At our present historical juncture, it would require a huge leap of faith to assume that the self-regulating properties of free markets could deliver a stable version of capitalism on their own. They have never succeeded in doing so in the past. Moreover, the extent to which contemporary capitalism has become financialized would make any such experiment in market self-regulation far riskier than it ever was in the 200 years that Kindleberger describes.
Thus, the only remaining alternative is to create an updated, reimagined version of the big government model of capitalism that prevailed in the immediate post-World War II era, before the rise of neoliberalism. Indeed, it was to avoid a repetition of the 1930s disaster that John Maynard Keynes, other economists, and Franklin D. Roosevelt led the movement to build alternative, big-government versions of capitalism. This idea became the New Deal in the United States and social democracy in Western Europe, with different specific configurations emerging in the various post-World War II advanced economies.
Extensive regulations of financial markets, public ownership of significant financial institutions, and high levels of public investment were integral features of New Deal and social democratic capitalism. Bailout policies were available as needed, but financial markets were more stable, and recessions shallower, during this period than throughout the preceding 200 years of capitalism. Average economic growth was also higher, with the gains from growth more broadly shared.
Of course, this was still capitalism. Disparities of income, wealth, and opportunity remained intolerably high, along with the social malignancies of racism, sexism, and imperialism. Ecological destruction, and global warming more specifically, was also beginning to gather force over this period, even though few people took notice at the time. Nevertheless, the New Deal and social democracy produced dramatically more egalitarian versions of capitalism than the neoliberal regime that supplanted these models.
A reimaged version of New Deal and social democratic capitalism will have to aggressively address the problems that continued to fester under the original models. However, a critical lesson we can learn from the massive bailout operations of the neoliberal era is that governments in the United States and other advanced economies can mobilize formidable resources to confront crises.
Focusing on the United States, one can readily envision how a reimaged New Deal—indeed, what has come to be called the Green New Deal—can work. The centerpiece must be a massive government-led investment program focused on supplanting our existing fossil fuel-dominant energy system that is destroying the planet with a clean-energy system that can put us on a viable climate stabilization path. This economy-wide investment project will generate millions of jobs engaged both directly and indirectly in creating a new energy infrastructure. This, in turn, will open opportunities to revive union organizing that can deliver higher quality jobs and better living standards. These jobs will need to be open to women and people of color, the population cohorts that have experienced systematic exclusion in U.S. labor markets for generations.
As we write, the Biden administration has taken major positive steps to advance such a program. The American Jobs Plan that Biden introduced in March is a serious, if still inadequate, proposal. It is designed precisely to build a clean energy economy while expanding good job opportunities. Of course, the question arises as to how we can pay for this highly ambitious public sector-led project. There are many ways to credibly answer this question, but we can start most easily by referencing the experience under neoliberalism. As we have seen, there has never been a shortage of financial wherewithal available to bailout a system that is demonstrably unjust and unstable, as well as ecologically calamitous. It should not be difficult to find the financial resources to mount a successful U.S. and global Green New Deal over the coming generation.
Gerald Epstein is Professor of Economics and a founding Co-director of the Political Economy Research Institute (PERI) at University of Massachusetts Amherst. He has published widely on a variety of progressive economic policy issues, especially in the areas of central banking and international finance. He is the author, most recently, of The Political Economy of Central Banking: Contested Control and the Power of Finance (Edward Elgar Press, 2019), and What’s Wrong with Modern Money Theory? A Policy Critique (Palgrave Macmillan, 2019).
Robert Pollin is Distinguished University Professor of Economics and founding Co-Director of the Political Economy Research Institute (PERI) at the University of Massachusetts, Amherst. His books include Back to Full Employment and, most recently, Climate Crisis and the Global Green New Deal: The Political Economy of Saving the Planet (co-authored with Noam Chomsky).
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