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The Era of “Debt Capitalism” Has Come to an End

Private debt, public debt and inflation: the drivers of economic growth for the last 40 years. Image: Mikko Saari/flickr

After 40 years of economic growth based on debt, the era of  “debt capitalism” has come to an end, says Wolfgang Streeck. The Managing Director of the Max Planck Institute for the Study of Societies in Cologne gave a remarkable interview (in German) last week that I would like to share with you, in advance of the World Economic Forum‘s meeting in Davos starting today.

Economies must grow in order to increase welfare. This has been the basic requirement for capitalist societies since the industrial revolution. Yet the last time Western societies experienced real economic growth was in the decades following WWII, says Streeck, in his account of recent economic history. Since the 1970s, when this period ended and economic growth slowed, governments started to print money in order to create the illusion of increasing salaries and greater welfare. In reality, however, income stagnated.

When decision-makers realized that high inflation rates could no longer be sustained, they looked for new recipes to keep the economy growing. In the 1980s, they found a solution in increased government spending based on public debt. Ronald Reagan was the unlikely representative of this policy.

Streeck argues that when government debt reached unsustainable levels, the third and final phase of “debt capitalism” (he uses the term Pumpkapitalismus in German) began. From the 1990s on, economic welfare was no longer based on inflation or on public debt but on private debt. Financial markets were liberalized and consumers, especially in the US, were convinced to take out loans in order to pay for their expenses.

The era of economic growth based on private debt ended abruptly in 2008. Governments had to bail out private debtors. In turn, public debt has risen to levels which has deprived governments of any room of maneuver. Economic development reached an impasse; the period of “debt capitalism” ended.

According to Streeck, governments face a dilemma because they have to serve two constituencies with contradictory demands: on the one hand, the constituents of the “citizen state” (i.e., the people in their capacity as citizens) want social security, education and health care; while, on the other, the constituents of the “market-state” (i.e.,  sometimes the very same people in their capacity as consumers and investors) want a return on government bonds and ultimately their money back (see the ISN’s discussion of The Six Historical Incarnations of the Modern State). Governments therefore face a trade-off between paying for public services and paying for their debts.

It seems that in recent months governments have prioritized market actors over citizens. But even radical austerity measures aimed at appeasing the “markets” were not enough. In the short term, citizens have remained relatively patient but they won’t remain that way forever, predicts Streeck. He warns that if capitalism no longer succeeds in providing economic welfare, politics in Western societies will become unpredictable, with riots, demonstrations and left- and right-wing extremism increasing.

The economic policies of the past 40 years won’t help this time, says Streeck, who sketches an alternative way out of the impasse. Western societies, he says, need to adjust their expectations to allow for low economic growth and combine this with policies to increase economic equality. If the increasing income gap is not bridged, the future looks dark, says Streeck.

While the economic and political elites gathering in Davos will hopefully consider Streeck’s diagnosis and prescription, we at the ISN will spend three weeks examining the economic and financial foundations of international politics, beginning next Monday. In the context of our Editorial Plan, we will first inquire into the past, present and future of the global economic and financial system. We will then in the second week revisit different conceptions of economic development and its associated problems. Finally, we will look at the relationship between economic and military power and between business and war.