Wall Street's Toxic Message
by Joseph E. Stiglitz
www.vanityfair.com/, July 2009
Every crisis comes to an end-and, bleak
as things seem now, the current economic crisis too shall pass.
But no crisis, especially one of this severity, recedes without
leaving a legacy. And among this one's legacies will be a worldwide
battle over ideas-over what kind of economic system is likely
to deliver the greatest benefit to the most people. Nowhere is
that battle raging more hotly than in the Third World, among the
80 percent of the world's population that lives in Asia, Latin
America, and Africa, 1.4 billion of whom subsist on less than
$1.25 a day. In America, calling someone a socialist may be nothing
more than a cheap shot. In much of the world, however, the battle
between capitalism and socialism-or at least something that many
Americans would label as socialism-still rages. While there may
be no winners in the current economic crisis, there are losers,
and among the big losers is support for American-style capitalism.
This has consequences we'll be living with for a long time to
The fall of the Berlin Wall, in 1989,
marked the end of Communism as a viable idea. Yes, the problems
with Communism had been manifest for decades. But after 1989 it
was hard for anyone to say a word in its defense. For a while,
it seemed that the defeat of Communism meant the sure victory
of capitalism, particularly in its American form. Francis Fukuyama
went as far as to proclaim "the end of history," defining
democratic market capitalism as the final stage of social development,
and declaring that all humanity was now heading in this direction.
In truth, historians will mark the 20 years since 1989 as the
short period of American triumphalism. With the collapse of great
banks and financial houses, and the ensuing economic turmoil and
chaotic attempts at rescue, that period is over. So, too, is the
debate over "market fundamentalism," the notion that
unfettered markets, all by themselves, can ensure economic prosperity
and growth. Today only the deluded would argue that markets are
self-correcting or that we can rely on the self-interested behavior
of market participants to guarantee that everything works honestly
The economic debate takes on particular
potency in the developing world. Although we in the West tend
to forget, 190 years ago one-third of the world's gross domestic
product was in China. But then, rather suddenly, colonial exploitation
and unfair trade agreements, combined with a technological revolution
in Europe and America, left the developing countries far behind,
to the point where, by 1950, China's economy constituted less
than 5 percent of the world's G.D.P. In the mid-19th century the
United Kingdom and France actually waged a war to open China to
global trade. This was the Second Opium War, so named because
the West had little of value to sell to China other than drugs,
which it had been dumping into Chinese markets, with the collateral
effect of causing widespread addiction. It was an early attempt
by the West to correct a balance-of-payments problem.
Colonialism left a mixed legacy in the
developing world-but one clear result was the view among people
there that they had been cruelly exploited. Among many emerging
leaders, Marxist theory provided an interpretation of their experience;
it suggested that exploitation was in fact the underpinning of
the capitalist system. The political independence that came to
scores of colonies after World War II did not put an end to economic
colonialism. In some regions, such as Africa, the exploitation-the
extraction of natural resources and the rape of the environment,
all in return for a pittance-was obvious. Elsewhere it was more
subtle. In many parts of the world, global institutions such as
the International Monetary Fund and the World Bank came to be
seen as instruments of post-colonial control. These institutions
pushed market fundamentalism ("neoliberalism," it was
often called), a notion idealized by Americans as "free and
unfettered markets." They pressed for financial-sector deregulation,
privatization, and trade liberalization.
The World Bank and the I.M.F. said they
were doing all this for the benefit of the developing world. They
were backed up by teams of free-market economists, many from that
cathedral of free-market economics, the University of Chicago.
In the end, the programs of "the Chicago boys" didn't
bring the promised results. Incomes stagnated. Where there was
growth, the wealth went to those at the top. Economic crises in
individual countries became ever more frequent-there have been
more than a hundred severe ones in the past 30 years alone.
Not surprisingly, people in developing
countries became less and less convinced that Western help was
motivated by altruism. They suspected that the free-market rhetoric-"the
Washington consensus," as it is known in shorthand-was just
a cover for the old commercial interests. Suspicions were reinforced
by the West's own hypocrisy. Europe and America didn't open up
their own markets to the agricultural produce of the Third World,
which was often all these poor countries had to offer. They forced
developing countries to eliminate subsidies aimed at creating
new industries, even as they provided massive subsidies to their
Free-market ideology turned out to be
an excuse for new forms of exploitation. "Privatization"
meant that foreigners could buy mines and oil fields in developing
countries at low prices. It meant they could reap large profits
from monopolies and quasi-monopolies, such as in telecommunications.
"Liberalization" meant that they could get high returns
on their loans-and when loans went bad, the I.M.F. forced the
socialization of the losses, meaning that the screws were put
on entire populations to pay the banks back. It meant, too, that
foreign firms could wipe out nascent industries, suppressing the
development of entrepreneurial talent. While capital flowed freely,
labor did not-except in the case of the most talented individuals,
who found good jobs in a global marketplace.
This picture is, obviously, painted with
too broad a brush. There were always those in Asia who resisted
the Washington consensus. They put restrictions on capital flows.
The giants of Asia-China and India-managed their economies their
own way, producing unprecedented growth. But elsewhere, and especially
in the countries where the World Bank and the I.M.F. held sway,
things did not go well.
And everywhere, the debate over ideas
continued. Even in countries that have done very well, there is
a conviction among the educated and influential that the rules
of the game have not been fair. They believe that they have done
well despite the unfair rules, and they sympathize with
their weaker friends in the developing world who have not done
well at all.
Among critics of American-style capitalism
in the Third World, the way that America has responded to the
current economic crisis has been the last straw. During the East
Asia crisis, just a decade ago, America and the I.M.F. demanded
that the affected countries cut their deficits by cutting back
expenditures-even if, as in Thailand, this contributed to a resurgence
of the aids epidemic, or even if, as in Indonesia, this meant
curtailing food subsidies for the starving. America and the I.M.F.
forced countries to raise interest rates, in some cases to more
than 50 percent. They lectured Indonesia about being tough on
its banks-and demanded that the government not bail them out.
What a terrible precedent this would set, they said, and what
a terrible intervention in the Swiss-clock mechanisms of the free
The contrast between the handling of the
East Asia crisis and the American crisis is stark and has not
gone unnoticed. To pull America out of the hole, we are now witnessing
massive increases in spending and massive deficits, even as interest
rates have been brought down to zero. Banks are being bailed out
right and left. Some of the same officials in Washington who dealt
with the East Asia crisis are now managing the response to the
American crisis. Why, people in the Third World ask, is the United
States administering different medicine to itself?
Many in the developing world still smart
from the hectoring they received for so many years: they should
adopt American institutions, follow our policies, engage in deregulation,
open up their markets to American banks so they could learn "good"
banking practices, and (not coincidentally) sell their firms and
banks to Americans, especially at fire-sale prices during crises.
Yes, Washington said, it will be painful, but in the end you will
be better for it. America sent its Treasury secretaries (from
both parties) around the planet to spread the word. In the eyes
of many throughout the developing world, the revolving door, which
allows American financial leaders to move seamlessly from Wall
Street to Washington and back to Wall Street, gave them even more
credibility; these men seemed to combine the power of money and
the power of politics. American financial leaders were correct
in believing that what was good for America or the world was good
for financial markets, but they were incorrect in thinking the
converse, that what was good for Wall Street was good for America
and the world.
It is not so much Schadenfreude that motivates
the intense scrutiny by developing countries of America's economic
failure as it is a real need to discover what kind of economic
system can work for them in the future. Indeed, these countries
have every interest in seeing a quick American recovery. What
they know is that they themselves cannot afford to do what America
has done to attempt to revive its economy. They know that even
this amount of spending isn't working very fast. They know that
the fallout from America's downturn has moved 200 million additional
people into poverty in the span of just a few years. And they
are increasingly convinced that any economic ideals America may
espouse are ideals to run from rather than embrace.
Why should we care that the world has
become disillusioned with the American model of capitalism? The
ideology that we promoted has been tarnished, but perhaps it is
a good thing that it may be tarnished beyond repair. Can't we
survive-even do just as well-if not everyone adheres to the American
To be sure, our influence will diminish,
as we are less likely to be held up as a role model, but that
was happening in any case. America used to play a pivotal role
in global capital, because others believed that we had a special
talent for managing risk and allocating financial resources. No
one thinks that now, and Asia-where much of the world's saving
occurs today-is already developing its own financial centers.
We are no longer the chief source of capital. The world's top
three banks are now Chinese. America's largest bank is down at
the No. 5 spot.
The dollar has long been the reserve currency-countries
held the dollar in order to back up confidence in their own currencies
and governments. But it has gradually dawned on central banks
around the world that the dollar may not be a good store of value.
Its value has been volatile, and declining. The massive increase
in America's indebtedness during the current crisis, combined
with the Federal Reserve Board's massive lending, has heightened
anxieties about the future of the dollar. The Chinese have openly
floated the idea of inventing some new reserve currency to replace
Meanwhile, the cost of dealing with the
crisis is crowding out other needs. We have never been generous
in our assistance to poor countries. But matters are getting worse.
In recent years, China's infrastructure investment in Africa has
been greater than that of the World Bank and the African Development
Bank combined, and it dwarfs America's. African countries are
running to Beijing for assistance in this crisis, not to Washington.
But my concern here is more with the realm
of ideas. I worry that, as they see more clearly the flaws in
America's economic and social system, many in the developing world
will draw the wrong conclusions. A few countries-and maybe America
itself-will learn the right lessons. They will realize that what
is required for success is a regime where the roles of market
and government are in balance, and where a strong state administers
effective regulations. They will realize that the power of special
interests must be curbed.
But, for many other countries, the consequences
will be messier, and profoundly tragic. The former Communist countries
generally turned, after the dismal failure of their postwar system,
to market capitalism, replacing Karl Marx with Milton Friedman
as their god. The new religion has not served them well. Many
countries may conclude not simply that unfettered capitalism,
American-style, has failed but that the very concept of a market
economy has failed, and is indeed unworkable under any circumstances.
Old-style Communism won't be back, but a variety of forms of excessive
market intervention will return. And these will fail. The poor
suffered under market fundamentalism-we had trickle-up economics,
not trickle-down economics. But the poor will suffer again under
these new regimes, which will not deliver growth. Without growth
there cannot be sustainable poverty reduction. There has been
no successful economy that has not relied heavily on markets.
Poverty feeds disaffection. The inevitable downturns, hard to
manage in any case, but especially so by governments brought to
power on the basis of rage against American-style capitalism,
will lead to more poverty. The con?sequences for global stability
and American security are obvious.
There used to be a sense of shared values
between America and the American-educated elites around the world.
The economic crisis has now undermined the credibility of those
elites. We have given critics who opposed America's licentious
form of capitalism ample ammunition to preach a broader anti-market
philosophy. And we keep giving them more and more ammunition.
While we committed ourselves at a recent G-20 meeting not to engage
in protectionism, we put a "buy American" provision
into our own stimulus package. And then, to soften the opposition
from our European allies, we modified that provision, in effect
discriminating against only poor countries. Globalization has
made us more interdependent; what happens in one part of the world
affects those in another-a fact made manifest by the contagion
of our economic difficulties. To solve global problems, there
must be a sense of cooperation and trust, including a sense of
shared values. That trust was never strong, and it is weakening
by the hour.
Faith in democracy is another victim.
In the developing world, people look at Washington and see a system
of government that allowed Wall Street to write self-serving rules
which put at risk the entire global economy-and then, when the
day of reckoning came, turned to Wall Street to manage the recovery.
They see continued re-distributions of wealth to the top of the
pyramid, transparently at the expense of ordinary citizens. They
see, in short, a fundamental problem of political accountability
in the American system of democracy. After they have seen all
this, it is but a short step to conclude that something is fatally
wrong, and inevitably so, with democracy itself.
The American economy will eventually recover,
and so, too, up to a point, will our standing abroad. America
was for a long time the most admired country in the world, and
we are still the richest. Like it or not, our actions are subject
to minute examination. Our successes are emulated. But our failures
are looked upon with scorn. Which brings me back to Francis Fukuyama.
He was wrong to think that the forces of liberal democracy and
the market economy would inevitably triumph, and that there could
be no turning back. But he was not wrong to believe that democracy
and market forces are essential to a just and prosperous world.
The economic crisis, created largely by America's behavior, has
done more damage to these fundamental values than any totalitarian
regime ever could have. Perhaps it is true that the world is heading
toward the end of history, but it is now sailing against the wind,
on a course we set ourselves.