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The Credit Crunch is Back and the Federal Reserve Panics on an Ocean of Debt
by Eric Toussaint
25 September 2019

In a state of panic and under pressure from big capital and President Trump, on Tuesday 17 September 2019, the Fed (the US Federal Reserve) pumped $53.2 billion into the banks because they were short of day-to-day funding available from the Interbank Lending Market or the Money Market Funds (see box below). Similar operations were repeated on 18, 19 and 20 September (see - see also - ), then again after the weekend on 23 and 24 September for a sum of $75 billion each day over the five days ( ).

On the 18th, still under pressure, the Fed lowered its prime rate for the second time in three months from 2% to to 1.75% ( This action did not stop Trump’s continued vindictive against the Fed in a twitter tweet, “Jay Powell and the Federal Reserve Fail Again. No ’guts,’ no sense, no vision!”.

In fact Trump wants the Fed to reduce its prime rate to 0% in line with the ECB and the Bank of Japan.

We are right back in September 2008 when the big banks, collapsing, stopped lending money to each other (thus provoking the failure of Lehman Brothers) and had to call on the Central Banks for help. The big private banks had lost confidence all round. The banking markets just dried up and the press cried; ’credit crunch.’ As from this moment the Fed had pumped a massive and steady stream of liquidities into the big US private banks and also permitted, up to 2011, European banks to have massive access to dollar liquidities. There was good reason for this; the banks of the two continents are so interdependent that should the European banks, through a shortage of dollars, be unable to honour their obligations to US banks this could have caused serious difficulties for the US banks.

What are Money Market Funds?

The Money Market Funds (MMF) are North American or European financial organisations that largely, or even completely escape banking controls through simply not having a banking licence. They practice what is called ’shadow banking’. Theoretically, the MMF are supposed to act with due caution but in fact their attitude is “what the heck.” Knowing that if one should fail there would be a high risk that a publicly funded bail-out would be necessary the Obama administration attempted to regulate them. This was only half done. The MMFs are a big cause for concern because of the considerable sums of money they can muster and the reduction in their profit margins that has come about since 2008. In 2019 US MMFs controlled $3,400 billion (, compared to $3,800 billion in 2008. MMFs accumulate investment capital from, amongst others, banks and pension funds, which is in turn loaned out on short term agreements, often day-to-day, to banks, corporations and states. In the 2000s this form of money supply became an important component of banks’ short term funding options.

Moody’s say that during the 2007-2009 period, 62 MMF had to be saved from failure by their titular banks and insurance companies. Thirty-six operated in the US and the others in Europe for a total aid of $12.1 billion. Between 1980 and 2007, 146 MMFs had to be saved by their stakeholders. In 2010-2011, according to Moody’s, 20 MMF had to be recapitalized. This shows how much their actions put the financial system at risk.

Global capitalism is kept afloat on an ocean of debts and massive injections of money by the main central banks (the ECB, the Fed, Bank of Japan, Bank of England and Bank of China) reinforce this tendency

These events are other illustrations of the state of global capitalism: growth is extremely weak in the most industrialised countries; the gradual slow-down of the US economy, that had been boosted by Trump’s 2017-18 tax breaks to big capital, is worrying the business sector; the German economy is in difficulty as are the UK and Italian economies; car sales are very weak in Germany, China, India and generally; although China’s economy is still growing by 5-6% it is at its slowest growth for 30 years; corporate profits are very little or not at all reinvested in production, they tend much more to line shareholders’ pockets or be thrown into the huge cash pile of financial speculation; climate change is not a real concern for CEOs or their big shareholders; since the 2008 crisis the banking sectors have not been regulated and have become even more concentrated; the big private banks continue to absorb many medium sized banks and to seek instant profits through speculation; oversight authorities and governments, in complicity with big capital, have laissé faire.

Global capitalism is kept afloat on an ocean of debts and massive injections of money by the main central banks (the ECB, the Fed, Bank of Japan, Bank of England and Bank of China) reinforce this tendency.

Through the policies of the central banks and of governments the economy of the industrialised countries has fallen into what the British economist J.M. Keynes (1883 - 1946) called a ’liquidity trap.’ Whilst the central banks pump cash into the economy to stimulate it the banks and big corporations prefer to hold on to it or use it to speculate.

It is helpful to remember the remarks made by Karl Marx in Capital in 1867 “At their birth the great banks, decorated with national titles, were only associations of private speculators, who placed themselves by the side of governments, and, thanks to the privileges they received, were in a position to advance money to the State.” [1]

The question is not whether these bubbles will burst, but when?

Concerning crises he added, “the crisis itself starts where speculation is rife and it is only later that it affects production. The outside observer does not see over-production as the cause of the crisis. The following production chaos does not appear to be related to its own previous exuberance but as a simple reaction to dwindling speculation.” [2]

In the present situation, the capitalist economy has entered into a new phase of crisis with a marked slow-down of production in excess of the over-production compared to the solvable demand and the level of speculation on financial assets (see further on). There is also Trump’s trade war, the new arms race and currency frictions. Meanwhile the ecological crisis reaches new proportions and big capital, as always on the lookout for quick profits, only aggravates it. It is time we created a new respect for nature, of which humanity is an integral part.

The Liquidity trap

In the balance of this article I shall re-examine the policies of the central banks of the biggest economies since the start of the crisis and sum up the threats they reveal. The central banks face a dilemma, a dilemma they have created themselves.

Banks are clearly dependent on state support

To put it simply but clearly, the central banks are asking themselves for how long they can continue pumping massive amounts of liquidities into the banking system and at the same time maintain near-zero interest-rates or, at least, interest-rates that are lower than inflation rates. They know very well that this policy, designed to protect the banks and big non-financial corporations, threatens to produce new speculative bubbles. The question is not whether these bubbles will burst, but when?

At the same time they know that if they seriously reduce liquidity injections they will be endangering the big banks, and recently-formed speculative bubbles will burst. If, on top of that, they increase interest-rates, this will make the banks even more fragile and result in more bubble-bursts. An additional difficulty is that higher interest-rates would automatically increase the cost of servicing public debt and thus aggravate state deficits. [3]

Because of central bank and government policies, the economies of the industrialized countries have fallen into what Keynes called the liquidity trap

Of course, there are alternatives [4]. They imply radical political choices and changes, namely to stop favouring the richest 1% and to make reforms in the interests of the 99%. However the central bankers do not have the will to change the class content of their policies. They are at the service of the 1%, the hand that feeds them.

This brings us to the horns of their dilemma: whether to continue in the error of their present policies – high liquidity injections and low interest-rates – or to make the error of changing them while adhering to the same logic. [5]

The present policy of low interest-rates and high liquidity injections has produced the following effects [6]:

  1. The banks, with a few notable exceptions, are managing to stay afloat because the central banks provide funds that are no longer available on the financial markets. Interbank lending has been severely reduced and liquidating long-term bank securities such as covered bonds and others has become very difficult. The fresh money gives the banks access to the Money Market Funds for their day-to-day finance. This access can dry up overnight as was the case on Tuesday 17 September 2019. Banks are clearly dependent on state support.
  2. The banks have continued their speculative activities by entering into other highly lucrative markets, eschewing, for the time being, the property market to speculate on the commodities and food markets, peaking in 2008-2009; sovereign bonds (since 2009); corporate bonds, stocks and shares (since early 2013); and foreign exchange. Thus their trading activities have not diminished. Speculation techniques have changed, in some cases for the worse, as in the increase in high-frequency trading.
  3. The banks have reduced their lending to consumers and to small and average businesses which create the majority of jobs. The peripheral EU economies are the worst affected. Contrary to the wishes of the central banks, who want more money injected into the economy, banks have toughened their conditions for granting loans to the real economy. However, the central banks are taking no action at all to impose lending on banks and so create demand and foster growth or support the little there is.
  4. Big non-financial companies in search of finance can issue their own corporate bonds. Banks and other ‘zinzins’ (institutional investors) buy them because they give a good return and are easily sold on the secondary market. The small and average businesses which do not have this possibility become disfavoured. Mario Draghi, President of the ECB, proposes that the banks offer businesses structured loans that will enable bankers to take the entailed risk off their balance-sheets as Asset Backed Securities (ABS). What is this all about? Banks that grant loans to small businesses can include them in a mixed bag of the same kind as the Collateralized Debt Obligations (CDO). These ABS are then considered to be collateral for loans at 0.25% from the central bank. Banks are lending to businesses at 5 to 6% in Italy and in Spain, and between 3 and 4% in France and Germany. Whenever he gets the chance, Mario Draghi hastens to point out the opportunity for banks to make good profits. In spite of such attractive encouragement the banks remain shy of increasing loan offers, structured or otherwise, to locally installed enterprises. [7]
  5. Bank policies concerning sovereign debt are both complementary and contradictory. On the one hand they have no qualms about speculating on the sovereign debt of certain countries they have helped put into difficulty. When they do not intervene directly they use their other financial structures, such as hedge funds, SPVs (Special Purpose Vehicles) or pension funds. At the same time the banks have increased their stock of sovereign debt as a source of high returns, Italian and Spanish bonds being the most significant examples alongside Ukrainian or Turkish bonds. Bonds from other countries, such as the US, the UK, Germany and other strong Eurozone countries, are used as guarantee and are easily negotiable securities that can be quickly transformed into liquidity, if needed. It is no surprise that the banks’ policies seem to be contradictory: they are caught between the hammer of their speculative activities (seeking high returns) and the anvil of their other investments.
  6. This said, the banks have by no means cleaned up their activities, and have barely reduced their use of leverage. The Deutsche Bank experience in 2018-2019 is one example.
  7. Generally, central bank and government policies have had very negative effects on the health of the economies while contenting the banks and the rest of the financial sector, along with the big non-financial corporations. Millions of jobs have been lost, millions of families evicted from their homes, poverty and inequality have greatly increased, the quality of public services has been seriously and purposely downgraded and new speculative bubbles are in preparation.
  8. Here follows a list of known speculative bubbles in preparation, for the moment generating high returns:
    - the corporate bonds bubble. The last big crashes took place in 1994 and 1987
    - the stock-exchanges are expanding too fast, especially since 2013 (the last bubble burst in 2007-2008)
    - a property bubble is forming in the US and in China.
    The bursting of even one of these bubbles can have far-reaching effects.
    What is new with current bubbles is that they occur in situations of stagnation or weak economic growth in the industrialized countries, whereas previous bubbles developed during periods of economic euphoria and fairly high growth.
  9. Because of central bank and government policies, the economies of the industrialized countries have fallen into what Keynes called the liquidity trap. While central banks inject liquidities and reduce interest-rates, the big banks prefer to keep their resources stashed away in readiness for the explosion of the time-bombs they see on their books, and to hedge against the bursting of the new bubbles they are creating. The industrial and service companies do not invest because demand, whether private or public, is anaemic. They either sit on enormous reserves of liquidities or use them to speculate. This is unheard of. The big corporations are sceptical about investing their resources in the economy of production and/or lending to consumers or small businesses. According to Keynes, to escape from the liquidity trap, the authorities must increase public spending to stimulate demand, and so stimulate the economy. Investment spending could be directed towards renewable energies, big public engineering projects, public buildings —especially schools and hospitals—, and a massive effort could be made towards an ecological transition. More staff could be taken on in the public services, particularly in health, education and social services, and they could have higher salaries. Pensions and benefits could be increased. Of course, central banks and governments are deaf to such proposals.
  10. As a result of their policies, the central banks’ balance-sheets have considerably increased in volume. This enormous expansion in such a short period has enabled the big private banks to remain as powerful as ever without bringing relief to the economies in crisis. Previously mentioned points clearly indicate this. Despite dramatic announcements, no radical measures have been taken to truly clean up the banking system. Thanks to the actions of the central banks, and the government decisions that follow in their wake, the big private banks continue their extremely speculative, and often fraudulent and even criminal, activities. They are helped by a permanent mechanism of transfusion of resources (unlimited public lending at very low and sometimes negative interest-rates). Some of them, even among the bigger ones, are relying on life support: in addition to the unlimited public lending, they have been recapitalized with public funds and their obligations guaranteed by the governments.

The same policies applied by the central banks and governments have caused a huge increase in public debt

The same policies applied by the central banks and governments have caused a huge increase in public debt. This is due to several connected factors: the cost of bank bail-outs; the multiple costs of the crisis for which the central banks, governments, private banks and the big corporations are responsible; ever more tax breaks for big business and the wealthy. These are all clear indications of the illegitimate character of a large part of public debt. The cancellation of this debt is one of the essential proposals for ending the crisis.

The central banks and crises in the capitalist system

In the capitalist system, crises serve as regulators: speculative bubbles burst, then asset prices approach their real value; profitable companies sink; capital is destroyed; unemployment increases and wages are reduced. Crises are part of the metabolism of capitalism. This is not to justify crises or capitalism, but simply to indicate that crises are an essential part of the way capitalism works. Until now public intervention, meekly responding to the demands of the employers, has managed to avoid or prevent the crisis from fulfilling its normal function of purging the capitalist system.

While among the population the victims of the crisis are counted in tens of millions, those responsible for it have made no attempt to clean up capitalism. Liquidations of big companies have been very limited, the banks have not cleaned up their books and new bubbles have formed or are forming. Productive investment has not been relaunched.

Unless a radical turn-around in favour of social justice is taken, the crisis is going to last for many years to come and/or suddenly take on a brutal character.
An internationalist strategy must be adopted

The fact that only a small number of banks in Japan, the UK and the US have gone down is entirely due to the assistance they have received from the central banks and the governments of the EU. Those in power have considered that the private banks were ‘too big to fail.’ Government policies that persistently favour the interests of big business and attack the population’s social and economic rights, insufficient or reduced public and private investment and the continual bursting of speculative bubbles are the ingredients of prolonged crisis. Unless a radical turn-around in favour of social justice is taken, the crisis is going to last for many years to come and/or suddenly take on a brutal character.

An internationalist strategy must be adopted. It is necessary to constantly seek, develop and coordinate internationalist action in the fields of debt, ecology, housing rights, the treatment of migrants and refugees, public health, public education and other public services, and labour laws. Such actions must also be undertaken to put Central Banks under the control of public authorities in order to put them at the service of the population, to socialise banks and insurance companies and the energy sector as well, re-appropriate the commons, abolish illegitimate debts, close down nuclear reactors and radically reduce the use of fossil fuels, prohibit fiscal dumping and tax havens, defend and extend women’s and LGBTI rights and launch constituent processes. In short, a programme resolutely anti-capitalist, feminist, internationalist and ecologist.

Translation by Mike Krolikowski and Snake Arbusto.

Footnotes :

[1Karl Marx, 1867, Capital, volume I, Ch. 31.

[2’Crisis, prosperity and revolutions,’ Marx-Engels, May to October 1850 in La crise, 10-18, 1978, p. 94.

[3Note that increases in prime interest-rates will have very negative effects on the treasuries of developing countries who will have greater difficulty in refinancing their debts and will see much capital flee to safer industrialized countries. Central bankers do not care about this: the president of the Fed said as much in February 2014. This may bring to mind the events of 1980-1981 when interest-rates made a bound following Fed decisions. Several authors have analysed the effects of the change in Fed policies that took place in October 1979 (see especially Gérard Duménil, Dominique Lévy, and Eric Toussaint’s many articles published in coordination with the CADTM).

[5The Fed started a cautious change of direction in December 2013 by reducing its monthly volume of purchases of MBS and US Treasury bonds. Then it stopped, since then it has only sold a small amount to ensure that the banks’ positions and the market did not fall through the floor. In fact, the Fed still holds $1,600 billion of MBSs. More recently under pressure from Trump and the big banks the Fed has resumed a policy of Quantitative Easing.

[6Other than the banks’ crimes and misdemeanors, considered in the series published in 2014 and in my book Bankocracy

[7In 2013 in Europe, all types of ABS fell by 38% from 2012 (Financial Times, 18 February 2014). In 4 years, the drop is more than 80%! (Financial Times, 3 September 2013).

Eric Toussaint

is a historian and political scientist who completed his Ph.D. at the universities of Paris VIII and Liège, is the spokesperson of the CADTM International, and sits on the Scientific Council of ATTAC France.
He is the author of Greece 2015: there was an alternative. London: Resistance Books / IIRE / CADTM, 2020 , Debt System (Haymarket books, Chicago, 2019), Bankocracy (2015); The Life and Crimes of an Exemplary Man (2014); Glance in the Rear View Mirror. Neoliberal Ideology From its Origins to the Present, Haymarket books, Chicago, 2012, etc.
See his bibliography:
He co-authored World debt figures 2015 with Pierre Gottiniaux, Daniel Munevar and Antonio Sanabria (2015); and with Damien Millet Debt, the IMF, and the World Bank: Sixty Questions, Sixty Answers, Monthly Review Books, New York, 2010. He was the scientific coordinator of the Greek Truth Commission on Public Debt from April 2015 to November 2015.