Why Brexit and Trump? The System is Rigged

Economist Ian McAuley has written a series of articles called Brexit, Trump and the Lucky Country on John Menadue’s site Pearls and Irritations. Ian is always thoughtful and sensible, especially by the standards of his profession, and the analysis is good as far as it goes. Yet there are more fundamental factors at work, and they need to be addressed if we are to escape further decline and destruction.

The gist of Ian’s argument, as I understand it, is that the implementation of market liberalisation has been done carelessly and many have been left behind. The resulting social exclusion has led to resentment which has been exploited by reactionaries who have induced people to lash out and vote against their own interests. Implicit in the argument is that market liberalisation is broadly a good thing and overall has been very successful.

I argue, on the contrary and from readily available evidence, that the neoliberal program never achieved more than mediocrity and that overall it has failed even on its own terms. Worse, it has corrupted government, fractured society and visited destruction upon the Earth. This failure flows from two false premises at the heart of neoliberalism: the libertarian claim that people should be rugged individualists, and the neoclassical claim that free markets usually will automatically optimise an economy.

Behind the votes for Brexit and Trump lies a simple perception: the system is rigged in favour of the rich. That perception is accurate. People may lash out at scapegoats and follow false prophets, but their disgust and alienation are quite justified. Trump promised to break up the cozy club at the top, and many people said Yes.

The Australian economy is regularly proclaimed to be highly successful, and the current favourite argument is that it has gone for 25 years without a recession. While that is technically true, its performance in the neoliberal era since 1983 has never come close to its performance in the social democratic post-war decades. Stephen Bell1 documented the contrast in 1997: the post-war average GDP growth was 5.3%, average inflation 3.3%, and average unemployment a minuscule 1.3%. Such numbers are held by many these days to be impossible.

Since then growth has averaged around 3%, inflation 2 to 4%, and unemployment has rarely been below 5%. Bell documented a comparable contrast for the OECD. A later comparison of over 100 countries shows growth pre-1980 averaging 2.5%, but only 1.1% after 19802. The rise of China improves the average lately, but China is far from neoliberal.

Australia’s pre-1980 economy is commonly dismissed derisively as protectionist and sclerotic, evidently on the basis of the difficulties of the 1970s. Two principal difficulties then were inflation due to the USA’s excessive spending on the Vietnam war and stagnation due to the quadrupling of oil prices. The economics profession at the time had trouble understanding that the effect of the oil embargo was not simple inflation (too much money) but rather a real rise in the cost of running the economy, as measured in the effort required. So the economy slowed, or “stagnated”. There may also have been a need to rebalance the level of wages, but that did not require a revolution.

The confusion around “stagflation” opened the way for a well-organised campaign by neoliberals to proclaim the failure of social democracy and to thrust their panacea of free markets upon the world. The neoliberal era began with the elections of Margaret Thatcher in 1979 and Ronald Reagan in 1980, but its roots go back at least to 1947, when economist Friedrich Hayek formed the Mont Pelerin Society to promote free markets3. He found ready backing from the wealthy.

Another common claim, made most explicitly by George Megalogenis4, is that the neoliberal “reforms” of the 1980s proofed the country against a recession in 2008. The claim is completely contradicted by the detailed evidence that Megalogenis himself assembled, as I have written elsewhere5. First of all, we avoided recession in 2008 because the Rudd government threw out the neoliberal rulebook and intervened heavily in the economy, putting money in the hands of people. The mining boom also helped, although it came in a little later and should not take credit from the Rudd government. Neither, of course, can neoliberals claim any credit for the mining boom.

Second, Megalogenis documents the deregulation of Australia’s financial sector and the resulting debt binge in which competing banks threw money at so-called entrepreneurs. That debt binge collapsed spectacularly and triggered the recession of the early 1990s, still Australia’s biggest since the great depression. So much for the wonders of financial deregulation.

Mainstream economists have a peculiar blindness to the critical dynamic roles of money and debt, as has been well demonstrated by Steve Keen6. So they seem to be blind to the cause of the 1990 recession, as they were blind to the approach of the 2007 Global Financial Crisis and are still blind to its cause – another and bigger debt binge. An honourable exception is Ken Henry, who later was Treasury Secretary during the Rudd Government, and it was he who, on the basis of lessons learnt from 1990, urged and supported Rudd and Treasurer Wayne Swan spending into the economy.

So the evidence does not support the claim that the Australian economy is a spectacular success. Its performance under neoliberal management has been mediocre and unstable, it was saved from recession in 2008 by departing from neoliberal rules, and it wobbles along precariously and uninspiringly under a huge burden of private debt, around 160% of GDP, as also documented by Steve Keen.

Analogous considerations apply to most of the rest of the world. Given the immense destruction and suffering inflicted by the global Global Financial Crisis and its protracted aftermath, one can only conclude that the neoliberal project has been a miserable failure, just on its own terms.

But the failure was not just in bringing about the GFC. In the United States, median incomes have stagnated since the 1970s, even as the super wealthy became ever wealthier7. Virtually all the extra wealth generated in that time has been creamed off by the already-wealthy. The situation has not been so extreme in other countries, but it has been of the same kind, and seen rapidly rising inequality of wealth around the world.

People may misdirect their anger, but they are not totally stupid. They know they have not been feeling the great benefits claimed by politicians, they know their lives have become less secure and more stressful, and they can see that a rich minority is laughing all the way to the bank.

Neoliberalism is an uneasy marriage of libertarian political theory and neoclassical economic theory. Each of these is based on a simplistic premise contradicted by modern evidence. The neoliberal agenda has been to reduce government to a few basic functions that support anarchic business practice. Its strategy has been to cut taxes on the rich and to use the resulting budget deficit as an excuse to cut services to society and the poor.

Libertarianism urges us to be rugged, self-sufficient individualists. The neoclassical theory explicitly excludes all social interaction (otherwise it would lose its favourite conclusion), and reduces us to the grotesque caricature called “rational economic man”, but which I have called a calculating reptile8. All mammals are social, including human beings, and you have to go back to reptiles to find the requisite lack of social interaction.

People in fact are highly social, and this is completely clear outside the hermetically sealed intellectual world of mainstream economics. We are attuned to living in small groups of up to 150 people. Our social responses are finely attuned to support the coherence and continuance of our group. We spontaneously punish cheaters, even at a cost to ourselves. This accords with our long history of living in villages, and before that in small bands of hunter gatherers. On the African Savannah being outcast from our social group, or having it disintegrate, would have meant a very short life expectancy. Highly sophisticated language is a strong social glue that can only have a function within social groups. There are many summaries of this large body of knowledge, and a recent comprehensive one is Moral Tribes, by Joshua Greene9.

Neoliberalism stresses the individual over the group. On the other hand communism stresses the group over the individual. Each is equally extreme and equally misguided. The richness of life flows from the tension between our individual needs and the needs of our social group. We are finely attuned to living in this way, as was recognised long ago by the Taoist philosophers. A healthy life requires the balancing of opposite polarities, encapsulated as yin and yang. It is unhealthy to try to live always at one extremity. The twentieth century provides ample evidence to support that insight.

So now to what may be the most controversial claim: there is no basis for expecting free markets to deliver desirable or efficient results (and this will not be an argument for socialism). The latter claim emerges from the neoclassical theory, which predicts a “general equilibrium” which can be shown to be optimally efficient. The theory rests on assumptions that are plainly unrealistic, even absurd. We are not social. We know the probabilities of all future contingencies. There are no economies of scale or, in the jargon, there are no increasing returns to scale.

If you relax any one of these or several other assumptions you do not predict a general equilibrium. Rather, you predict a radically different kind of system, one that is full of instabilities and prone to erratic behaviour. This kind of system is known from systems theory: it is a self-organising system, possibly in the domain of complexity, or in extreme cases chaotic. Such systems are always far from equilibrium. If there is no general equilibrium, no claims for optimality can be made. A market might be efficient, or not. A market might deliver desirable results, or not.

Much casual support for markets seems to come from a simplistic appeal to the so-called “law of supply and demand”. This has a naive appeal but in the real world of large-scale modern economies supply often follows a different prescription and demand is a nebulous and ill-defined thing prone to sudden shifts6.

Paul Krugman is fond of saying that economists use models because they are a useful guide to thinking. Milton Friedman10 is often quoted as saying all models are wrong and assumptions don’t matter if the results resemble reality. Apparently Friedman was trying to say that all models are only approximations to the observable world, but he got the whole idea hopelessly mixed up.

Physical scientists know that the test of a model is whether it provides useful guidance to the behaviour of the observable world. Assumptions matter great deal, they condition the whole character of the model and can exclude whole classes of behaviour, as for example the neoclassical assumptions exclude booms and busts. Krugman implies that neoclassical models are still a useful approximation, but they resemble real economies about as much as a rocking horse resembles a troop of wild horses. Neoclassical models are wildly misleading. I have expounded on this at greater length here and here.

The conclusion is that there is no basis in relevant theory for expecting real-world free markets to be optimal. The evidence cited above shows that neither are they very good in practice. The basis for market fundamentalism evaporates.

Yet markets are clearly powerful. They allow a great deal of information to be processed collectively, though not necessarily very rationally. They can provide a stimulus to innovation.

A resolution of this apparent conundrum is to recognise that markets follow financial incentives, and financial incentives can be managed. Activities can be taxed or subsidised or regulated, as they commonly are. So markets can be managed. They are managed at present, but incoherently or perversely. If they were managed to improve our quality of life we might be amazed at how rapidly our lives improve. The ailing Earth might be brought back to health at the same time, as it must because it is our sole life support system.

There are other fundamental problems with modern economic management. Banks and the financial system are the main drivers of destructive booms and crashes and they need to be reined back in and brought into the service of the productive economy. GDP is a crude tally of activities involving money, many of them harmful. It allows the pretense that deforestation, pollution and excessive building promote general wellbeing, and that caring mothers at home are a wasted resource. GDP growth is also a proxy for endless growth of material demands on the planet. We need to abandon GDP, and its endless growth, and replace it with proper balance-sheet accounting of our well-being, including material, social and environmental aspects.

Many people speak of “capitalism” as though it is a black box whose internal mechanisms are mysterious and invisible, and as though there is only one kind. There have been many variations of capitalism, and there can be many more, because market mechanisms, regulations, social institutions and so on all affect the way our economy works. The inequality that is a major feature of the current global system, and the source of much alienation, is not a mysterious and inevitable feature. Even Thomas Piketty who, unlike most of his profession and to his great credit, assembled actual observations of inequality, could point only to a broad aggregate rate of return on capital of poorly specified origin11. In contrast, I have identified at least seven readily evident mechanisms by which wealth is pumped disproportionately to the wealthy8 and Dean Baker identified a different list, only partly overlapping. These mechanisms were created or amplified by policy, and they can be changed again.

In other words the present system is rigged in favour of the wealthy, just as many people suspect. The fair go seems to have been abolished. First Dog on the Moon wants it back, and so do I12.

This account does not exhaust the problems with current economic management, which I have written about elsewhere8, but it underlines the need for a fundamental reappraisal of how we run our societies. It also emphasises how justified is the anger and alienation behind current political instability.

Resentment of inequality is commonly dismissed as envy, or as “class warfare”, but there are at least three substantive problems with inequality. The very rich commonly play speculative games rather than productively investing their wealth, so economic efficiency is impaired. Extreme inequality is commonly perceived as being unfair, quite correctly at present, and this is destructive of social cohesion. Finally and most perniciously, the very rich buy our representatives and corrupt our governments.

There is currently a fuss about MPs abusing entitlements, and there are widespread perceptions of corrupt dealing on specific policies. However there is little mainstream discussion in Australia of the systemic corruption due to the major parties receiving large amounts of private donations, many of them hidden, in the context of policies that favour many wealthy constituents against the clear wishes of the population. Our democracy has become systemically corrupt, and many people perceive it that way.

As trust in our democratic system declines, so our social cohesion is weakened. On top of that our major parties have taken to attacking vulnerable minorities like refugees and Moslems, and even the poor, with the shrill support of commercial media. Our society is riven, fearful, and ripe for reactionary demagogues, and the neoliberal project carries much of the responsibility.

In case anyone is in doubt, recent surveys document a sharp drop in public trust in Australian institutions and leadership. Australia was among 10 countries with an above-average sense that the “system is failing”. More than 70 per cent of Australians believe the country needs a strong leader “to take the country back from the rich and powerful”. Bill Shorten won’t do it. Richard di Natale doesn’t seem to be interested. That pretty much leaves Pauline, or Cory Bernadi with Tony as his puppet.

As well as all that, neoliberalism let loose the anarchic forces of free markets just at the time when we most needed them to be restrained and redirected so as not to wreck our planetary home. Globally as well as in Australia, habitats are being destroyed, soil lost, water polluted, water supplies stressed and toxic pollutants spread far and wide so that the Earth’s living systems are showing increasing signs of stress and imminent collapse. Global warming comes on top of all that.

It is hard to see how the Great Barrier Reef can survive the inevitability of at least several more decades of warming, and indeed it seems increasingly unlikely we will avoid tipping into catastrophic, runaway warming (I write here as an Earth scientist). All of these destructive trends accelerated under neoliberalism, and neoliberalism is simply incompatible with what we need to do to give our descendants (that means your grandchildren, and theirs) some chance of decent and fulfilling lives into the indefinite future.

Thus the problems behind current political instability have been developing for a long time and run very much deeper than a need for more sensitive management of market liberalisation. Resentment of the neoliberal regime has been building for many years, and under the surface have been many signs that people long for something better13,14.

Ian McAuley reiterates the commonly made point that the left, so-called, has had little alternative to offer, but we should remember that the nominal parties of the left abandoned the field and left it leaderless. Roger Douglas, Paul Keating, Tony Blair, Bill Clinton all swallowed the snake oil and set about implementing or continuing the neoliberal agenda, which was obviously going to favour the rich over ordinary folk. They didn’t have to, there was an alternative, and I can’t explain why they did, except probably Hawke and Keating were intimidated by the treatment dished out to Gough Whitlam and they were all beset by a shrill and self-interested media campaign, backed by well-funded neoliberal think tanks. But by abandoning their principles they abandoned their reason for existing.

There are widespread and well-developed movements to create more sustainable and more fulfilling ways of living15,16,17, and they can be integrated within new supportive systems, but these developments still run mostly below the radar of mainstream political discourse. They are the source of a lot of the support for Bernie Sanders and Jeremy Corbyn.

The community of policy analysts would do well to greatly broaden and deepen its exploration of problems and options. We need to escape the mesmerising influence of failed mainstream doctrines, left and right. The world desperately needs more people to wake to our dire situation, and to the great promise of a more hopeful future.

Bibliography

1 Bell, S., Ungoverning the Economy. 1997, Melbourne: Oxford University Press. 324 pp.

2 Weisbrot, M., D. Baker, and D. Rosnick, The Scorecard on Development: 25 Years of Diminished Progress. 2005, Center for Economic and Policy Research, http://www.cepr.net/index.html: Washington D. C.

3 McKnight, D., Beyond Right and Left. 2005, Sydney: Allen & Unwin. 298 pp.

4 Megalogenis, G., The Australian Moment: How we were made for these times. 2012: Penguin. 371 pp.

5 Davies, G., Megalogenis’ paean to neoliberalism — faith versus evidence. Independent Australia, 2015, 1 May https://independentaustralia.net/australia/australia-display/megalogenis-paean-to-neoliberalism–faith-versus-evidence,7652.

6 Keen, S., Debunking Economics: The Naked Emperor Dethroned? Second, revised and expanded ed. 2011: Zed Books.

7 Reich, R.B., The Limping Middle Class, in New York Times. 2011: New York, NY.

8 Davies, G.F., Sack the Economists, http://sacktheeconomists.com. 2013, Canberra, ACT, Australia: BWM Books, http://www.bwmbooks.com. 238 pp.

9 Greene, J., Moral Tribes: Emotion, Reason, and the Gap Between Us and Them. 2013: The Penguin Press HC. 432 pp.

10 Friedman, M., The methodology of positive economics, in Appraisal and Criticism in Economics: A Book of Readings, B. Caldwell, Editor. 1953/1984, Allen and Unwin: London.

11 Piketty, T., Capital in the Twenty-First Century. 2014: Belknap Press. 696 pp.

12 Davies, G.F., Desperately Seeking the Fair Go. 2017, https://betternature.wordpress.com/my-books/to-parliament-with-love/.

13 Ray, P.H. and S.R. Anderson, The Cultural Creatives. 2000, New York: Harmony Books.

14 Eckersley, R., Is the West really the best? Modernisation and the psychosocial dynamics of human progress and development. Oxford Development Studies, 2016. 44(3): p. 349-365.

15 Alperovitz, G., What Then Must We Do?: Straight Talk about the Next American Revolution. 2013: Chelsea Green Publishing.

16 Klein, N., This Changes Everything: Capitalism vs. The Climate. 2014: Simon & Schuster.

17 Davies, G.F., The Nature of the Beast: how economists mistook wild horses for a rocking chair. 2012: Electronic copy available from https://betternature.wordpress.com/. 233 pp.