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Ben Chifley was right all along about the banks

By James Cumes - posted Friday, 13 March 2009


In 2006, I wrote:

The most forbidding of economic crises - with a variety of themes, aspects and complexities - seems to threaten just a short distance down that road from where we are now. If and when it arrives, a turmoil and misery to put the Great Depression of the 1930s to shame could afflict the American economy and the American people - and persist perhaps for a decade or more. (America’s Suicidal Statecraft: The Self-destruction of a Superpower)

American - and global - acceptance of that prediction came slowly and painfully; but most now acknowledge we are in a deep global depression, not a passing cyclical recession, and that it is a depression of transformative dimensions.

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It will require not just reform at the margin, with stronger financial regulations, but will compel recasting our entire economic and financial system - the fundamental dogmas on which the system has been based as well as the corruptions which they have nourished.

The problems we face are of our own making. They are neither a cyclical inevitability nor a judgment of the gods. So, the solutions too are in our own hands; but those solutions will require us to transform our recent thinking, personality and culture, and construct an entirely new economic and financial environment. In concept, it will be a reformation as deep and comprehensive as we contrived for the economy after World War II; but it will be even more complex and the penalties for failure could be even more dire; socially, politically and strategically.

At the heart of both our problems and our solutions are the banks or, more generally, the banking and non-bank financial institutions - the “financial services industry” as it is often grandiloquently called.

Those problems have been building for 40 years, since Richard Nixon’s attempt to curb inflation in 1969 and the closure of the International Monetary Fund (IMF) “gold window” in 1971. They blossomed under the free-market, small-government ideology of the 1980s. As our focus on the real economy shifted, in the last 20 to 30 years, to a gathering mania for massive, complex speculation and debt, our problems spiralled out of control.

The collapse of such a bizarre system, with its Ponzi-like features, was always inevitable. The only questions were when, and how calamitous, the mania would become before the financial house of cards tumbled down. We now know that manic illusion persisted so unconscionably long that, when widely identified collapse began around 2008, the entire global economic, social, political and strategic status quo was already gravely endangered.

Even now, realisation is incomplete. The United States has put its own superpower status gravely at risk but awareness of this and its implications is still shadowy. Stimulus packages, bank bailouts and aid for homeowners may be tempting but, alone, they pathetically underestimate the character and magnitude of what is necessary.

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We must, moreover, reverse “the emphasis of the economic overlords … to bailout private capital at virtually any cost”. Rather we must proceed quickly - a feature most governments acknowledge - but with great care:

  1. to implement what I have called “soup-kitchen” programs; and
  2. to restore a stable, well-managed global economy as rapidly as we can.

The stimulus packages, tax cuts, aid to homeowners and, in some measure, even bank and auto-industry bailouts may be seen as “soup-kitchen” measures: they cannot resolve the underlying financial and economic problems. At the multilateral level, they may be compared with the work of the United Nations Relief and Rehabilitation Administration after World War II. Such a multilateral effort might be relatively easy today, provided of course that the major countries - let’s say, the Group of Twenty and more - work together harmoniously and effectively.

“Soup-kitchen” programs will be most valuable to the extent that they maximise infrastructure investment. However, even high-value public investment will be far from enough. Private investment in its rich variety is vital.

Longer-term restoration of stability to the global economy, calling for reform of the entire financial system, offers a far greater challenge. Crucially, it means basic reform of the banking system. If we do not get banking reform right the outlook for the global community will inevitably be bleak.

The real economy cannot flourish without an effective banking system which is responsible, well-regulated and vigorous. To be healthy and sustainable, the domestic and global economies must be nourished by real, mostly fixed-capital investment, growing real productivity and expanding real production.

These three elements - investment, productivity, and production - are the indispensable sources of income and wealth. They are equally essential for environmental and other sustainability.

The vital engine for stable, sustainable growth is real investment and the indispensable function of the banking system is to intermediate this real investment and, in so doing, to maximise the creation of real income and wealth. The banks - or more comprehensively, the financial services industry - should be efficient and, above all, have the highest level of professional and social integrity. They should abjure speculation and the manic nurture of a casino economy. They should be, as British Prime Minister Gordon Brown recently said, the servant, not the master of the economy and the society.

With this in mind, our purpose must not be to “bail out” or “rescue” existing banks which have failed their communities so utterly. Rather we must create, or transform, banks and non-banking financial institutions to play their historic, intermediating role in real investment to advance the welfare of the economy and society.

However, at this crucial moment in history, we must require of them even more than that. If banks are to do the job of getting the real economy back on its feet, they must - in the immediate future - fill the investment gap left by the collapse of the failed financial “system”. Many banks now cannot perform their basic task with anything like the vigour necessary to lift the debilitated economy out of the current depression with reasonable speed and completeness.

We must not waste public resources keeping zombie banks alive or being tender to toxic paper. Those resources will be better employed for the “soup-kitchen” emergencies or in restoring health to the longer-term domestic and global economies.

The failure of banks - a single bank, a group or virtually the whole system - offers an opportunity for our democratic communities to assume bank ownership and apply public resources vigorously to restoring and reinvigorating the real economy. Publicly-owned banks can demonstrate vigour and discipline in lending, vital to getting real investment, productivity and production going again at high levels, and to reducing unemployment, poverty and social distress.

That is the broad path along which all economies - and the global economy as a whole - should travel. Australia should take that path.

In the depths of the Great Depression in the 1930s, when the Australian Government appointed a Royal Commission on Money and Banking, a Labor politician called Joseph Benedict Chifley was among the more imaginative contributors to the Commission’s proceedings. He became Treasurer in 1941 and Prime Minister in 1945. His Banking Act of 1944 was one of the wisest pieces of legislation of the past century. It required banks to serve and be regulated by the society that endowed them with such enormous privileges.

The domestic flow of funds was to be managed for the welfare of the real economy, with real investment intermediated by the banks to be regulated to avoid “bubbles”, while nurturing healthy enterprise. The publicly owned Commonwealth Bank was invested with both central-bank and commercial-bank responsibilities. The Australian community was thus given an opportunity to participate directly in the real economy and “motivate” the private banks both through its central-bank controls and through benchmarks set by its commercial-banking enterprise.

With some cosmetic changes such as the establishment of a Reserve Bank, these banking arrangements worked splendidly, under both left wing and right wing governments between 1945 and 1970; but they were swept away, especially from the 1980s onwards.

In the later 1940s, in the face of growing resistance by the private banks, Chifley feared that his wisely crafted legislation might be threatened; so he tried to nationalise the entire banking system. He failed and eventually, as he feared, the banks were allowed the unregulated irresponsibility which is always their first love and - so often - the origin of their community’s most acute distress.

One of Chifley’s more radical ministers, Eddie Ward had misgivings going beyond the local banks. He deeply mistrusted “Wall Street”.

Rather excessively, he argued that signing the Bretton Woods Articles of Agreement would “enthrone a World Dictatorship of private finance, more complete and terrible than any Hitlerite dream,” destroy Australian democracy, pervert and paganise Christian ideals, and endanger world peace. He was influential enough to delay Australian membership of the Bretton Woods agencies - but only for a time. His views were then set aside. Australian membership went ahead.

However, after the US dollar link with gold was broken, currencies floated and IMF policies created so much distress in so many countries, he came to look increasingly like a man of vision. Today he must surely have legions sharing his mistrust of “Wall Street” not only in Australia, but around the world.

So we need to return to much of the thinking by which we were motivated as we rebuilt relatively stable economies after WWII and before 1971. Locally, we must control the banks - unequivocally. We must control the domestic flow of funds so that we avoid the speculative mania and “bubbles” of recent years. We must control the global flow of funds so that the calamitous “volatility” of credit and debt - the monstrous mania of currency and other speculation - never again leads us to the financial catastrophe we know today.

The worst is yet to come. Even the largest and formerly most highly respected economies, such as the United States and Britain, could face sovereign default and national bankruptcy. What has happened to Iceland could happen to them - and many others.

The Australian Government was a leader in policies of post-WWII reconstruction. The situation is more complex now but the basic building blocks of sound financial and economic management have not changed. In many ways, Chifley was right. Eddie Ward was right too. At least he reminds us that we have been too ready to jump on a “Wall Street” financial bandwagon that, for the last two decades or more, surely had “CRASH” emblazoned all over it. We should have counselled caution to our American friends, rather than encourage them or be silent about the self-destructive nature of their policies - for them and, ultimately, also for us.

I do not know how vulnerable the major Australian banks may really be. So far, they seem less at risk than those in the United States or Europe. What is vital is that they be strong enough to give vigorous support to real investment in the real Australian economy in the coming months and years. Especially if there is any doubt on that score, the Australian Government must provide, as a direct banker, the vigour that is lacking. It should acquire or create a public bank along the broad lines of the Commonwealth Bank, as it existed before privatisation. A prudent government should always keep direct ownership and control of at least one major banking institution, quite separately from the central bank. To that extent, Chifley was most assuredly right.

The Australian Government should also be as vigorous as the Chifley government - largely through Foreign Minister Evatt - in advocating multilateral efforts to create a stable and growing world economy. It should take the Chapter X economic and social provisions of the United Nations Charter as a guide and either revitalise the Economic and Social Council or set up a more powerful World Economic Council. Like the Security Council, the WEC should “function continuously,” consider critical situations as they arise, and appoint multilateral working groups to study and report on multilateral policies to advance - on a longer-term basis - the stability, growth and sustainability of the global economy.

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About the Author

James Cumes is a former Australian ambassador and author of America's Suicidal Statecraft: The Self-Destruction of a Superpower (2006).

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