Big Finance Is a Monster That's Consuming Our Economic Security

This horror story starts in the 1970s when the economic policy establishment, led by Milton Friedman, thought they were a whole lot smarter than the New Dealers who had put a lid on the financial sector and forced high taxes on the super-rich – all designed to prevent the gamblers from again wrecking our economy like they did in 1929.  

Blinded by ideology, the 1970s gang were certain the economy would run much better if free markets were allowed to function without government interference. This meant deregulation of airlines, telecommunications, trucking industry and most importantly, the deregulation of finance. At the same time they called for tax cuts for the rich because these elites were the source of investment capital needed to make the economy grow. 

When the Reagan Revolution arrived, both political parties were tripping all over themselves to cut taxes for the rich and to unleash the financial sector so that it could “innovate” This combo was supposed to produce a massive investment boom that would make all boats rise. Free markets, not government, would run the economy.  

And so they did. The combination of upper-end tax cuts, deregulation, globalization and anti-union policies led to a dramatic change in our income distribution. The top one percent jumped from taking in 8 percent of all income in 1970 to 23 percent in 2006 -- the same as on the eve of the Great Depression, and that’s no coincidence.  

Meanwhile, the average wages of non-supervisory workers, which had risen steadily since 1940, came to a crashing halt. For the first time since WWII, an entire generation of workers would see their real wages stagnate and then decline.   

The deadly combination of a deregulated financial sector and too much money in the hands of a few set the stage for an enormous financial casino…and then a crash. Wall Street understood that the super-rich were running out of real investments in actual companies, so financial innovators came up with new kinds of investments that didn’t contain any real assets at all.  

From the Age of Aquarius to the Age of Derivatives

Derivatives are financial instruments that gain or lose value based on real assets that are not owned by the holders of the derivative securities. The derivative security you own is just a bet. (For fantasy baseball aficionados: Your fantasy baseball teams are derivatives based on the statistics that come from real major league baseball players that your fantasy teams don’t own.)  

We’re talking about credit default swaps, CDOs, synthetic CDOs, CDO squared and cubed and on and on into a fantasy world of bets so complicated that most investors had no idea what they were buying. All that mattered was the high rates of return and the rating agency grades. And of course because those agencies were paid by the financiers, about 80 percent of these make-believe assets were rated AAA.   

This was the biggest boom industry in the history of finance. By 2001, the total value of derivatives in the US was about $42 trillion. By 2007 it had jumped to $170 trillion. 

As the financial casino heated up, more and more of all corporate profits were sucked into the financial sector. In the 1950s and 1960s the financial sector on average received 12 to 15 percent of all corporate profits.  As deregulation set in during the 1970s and 1980s, the financial sector’s profits rose to 20 percent of all domestic corporate profits. 

After the Clinton administration further deregulated Wall Street in the 1990s, financial profits jumped up to 29 percent of all corporate profits.  

And when in 1999 derivatives were set free from all regulations, all hell broke loose, From 2000 to 2004 the financial sector cornered 39.2 percent of all corporate profits, hitting a peak of 44 percent in 2002. Think about that: nearly half of all corporate profits were swept into the casino.  

When toxic assets blew up in 2008 and the financial sector went on the federal dole, its share of profits collapsed back down to 17 percent, just about what it was during the 1960s. If only the story ended there.  

Instead, we bailed them out without squashing their casinos, without hitting them with windfall profits taxes, without breaking up too-big-to-fail banks and without regulating hedge funds. Actually big banks got bigger and competition among them declined as the Feds orchestrated a series of mergers. As a result, banks could corner lucrative markets and raise their fees. Today, the top 10 banks have $11 trillion out of $13 trillion in total banking assets. (There are 7,650 banks.)   

Guess what? Financial profits shot back up to 28 percent of all corporate profits in 2009.

And you won’t be seeing very much of it. That’s because the top one percent among us own 42 percent of all financial wealth, while the bottom 80 percent has just 7 percent...and those are 2007 numbers before the crash destroyed the value of so many 401ks.   

The myth of finance and jobs

Obviously the financial sector is much bigger than hedge funds. There also are jobs at banks, investment houses, insurance companies and real estate firms. Surely, this massive sector is providing the kind of job growth we need to make up for the enormous losses in manufacturing employment? 

Wrong.  

Never before in history have the few made so much money and created so little employment. During the low financial profitability years, the financial sector as a whole (including insurance and real estate) inched up from 3.8 percent of all jobs during the 1950s to, 4.3 percent in the 1960s and 5.0 percent in the 1970s. (All data based on Bureau of Economic Analysis tables.) 

But when finance was gobbling up 30 to 40 percent of all corporate profits, jobs did not follow.  In 1980s and 1990s finance services accounted for 5.8 percent of all jobs, and from 2000 to 2010 when finance hit its most dizzying heights, it produced only 5.9 percent of employment. That’s pathetic. It’s also dangerous because it means we’re likely to face chronic high unemployment for years to come. 

Yet some continue to see finance as our destiny. Heaven help us. Treasury Secretary Timothy Geithner, for example, is sure that America will prosper if it encourages its biggest banks to dominate the world market for financial services. In a recent interview he said: 

"I don't have any enthusiasm for ... trying to shrink the relative importance of the financial system in our economy as a test of reform, because we have to think about the fact that we operate in the broader world. It's the same thing for Microsoft or anything else. We want U.S. firms to benefit from that."  

At least the guy is honest. He really believes that making Wall Street bigger and richer will make our country prosper. And he actually thinks a multi-billion-dollar hedge fund is just like Microsoft. For Geithner it doesn’t matter that Microsoft has 135,000 employees while John Paulson’s hedge fund has fewer than 200. As Wall Street’s most powerful protector, he will never question whether or not this industry creates real value for our economy.  

So there you have it. Decades of deregulation and tax cuts for the rich have turned the financial sector into the most prosperous casino in history by and for the few. The financial sector is on the march again, siphoning off our national wealth into its useless casinos and creating little or no employment for the eight million who lost their jobs because of the financial crash. 

Meanwhile, Geithner and company are more than happy to shift the debate from shrinking the size of Wall Street to cutting back middle-class benefits in order to pay off the debt (debt run up to save the economy from Wall Street’s crash).   

The real debate should be how best to reclaim our nation’s wealth from Wall Street. It’s high time that the $2.2 trillion sloshing around in hedge funds supported real job creation and debt repayment instead of enriching a handful of billionaires.  I sure do miss Eisenhower’s 91 percent top marginal tax rate. 

If ever there was time for a national Wisconsin-like backlash against financiers, this is it.