If we assume that the economic and social problems of the world are not due to the plan of a world spirit of whatever kind, but are man-made, then this gives us the task of tackling the problems and looking for solutions. To this task, economist Richard A. Werner contributes with his textbook “New Economic Policy. What Europe can learn from Japan’s mistakes”, published as early as 2007. Therein he examines the extent to which misguided economics has contributed to the development of the existing economic ills and calls for a realistic economics, because: only a realistic economics has a chance to contribute to solving the problems of our world.
In my contribution, I will try to describe some of the findings of this work, especially those that seem to me to be important for a better understanding of economic and political processes today. In doing so, I am aware that my selection reflects only a small part of the very extensive material given, especially since I will not go into a technical discussion of economic theories, which are of course an essential part of the textbook.
For Richard A. Werner, economics is in a deep crisis. The macroeconomic theories on which it is based, which form the basis of economic policy decisions in many countries, are, in his estimation, “more fiction than reality”. Their credo that the “effective power of free markets” with as little state intervention as possible is the best way to achieve economic stability and prosperity has not proved to be true. For decades, the neoliberal conviction has been implemented worldwide, especially in developing countries and former communist countries, but the expected positive results have not materialised: Poverty, lack of social security and economic inequality continue to be a major problem for the majority of the world’s population (p. VII).
“Privatisation, deregulation and liberalisation” is the credo of the school of thought Werner deals with under the less commonly used name of “neoclassical economics”.
According to neoclassical doctrine, only a free market enables “prosperity, a flourishing economy and maximum personal happiness”. Companies in which the state has a stake are to be sold. The labour market must become more “flexible”. This means layoffs and greater insecurity for those who still have jobs. Reforms of social security and health care are demanded. State and social regulations and interventions in the movement of capital, goods and people are to be reduced as far as possible and the regulation of all economic activities is to be left solely to the “invisible hand” of the market.
As early as the mid-1980s, debates on economic and socio-political issues were dominated by neoclassical thought, “in all aspects, whether concerning the role of the individual, communal concerns, firms, the state or even the international community” (p. 3) [all quotes translated by Current Concerns]. Neoclassical economics is based on the assumption that the “primary goal and overriding motive of humanity is the increase of material wealth”. “Social relations and the need of individuals to relate to each other and to find recognition in their community” are outside the scope of the neoclassical model (p. 20).
Richard A. Werner explains that in the 1990s, the influence of the neoclassical school of thought became all-encompassing. Most economics courses taught only neoclassical doctrines, and its representatives were given access to the highest public offices: “Neoclassical economics dominated the decisions of the major international organisations dealing with economic policy. Prominent among these are the regional development banks, the IMF, the World Bank, the Bank for International Settlements (BIS), the WTO (and its predecessor organisation [GATT], and the OECD”. In over one hundred countries, “central bank policies, structural adjustment programmes led by the IMF, and reform packages put together by development banks have led to drastic changes in fiscal and monetary policy”. And these changes were always in line with neoclassical policy – usually supported by the US Treasury (p. 5).
Theory and reality of neoclassicism according to the example of Japan
Japan and other countries in the Far East did not base their economies on neoclassical theory. They developed a form of capitalism in which market mechanisms had a due place, but at the same time it was ensured that not the shareholders but society as a whole was the beneficiary of the system. They were guided by theories that could be attributed to the “German historical school” or “social economics”.
Until the end of the 1980s, the Japanese post-war economy relied on a multitude of state regulations in the form of state “economic steering”: capital markets were limited, “shareholders” had little influence on companies in the productive economy, the labour market was “inflexible”. Employees in permanent employment with large companies enjoyed a lifetime job guarantee. Their career advancement depended on their length of service, which led to great loyalty of employees to their companies. And there were a large number of formal and informal “cartels” – this term refers to industrial associations consisting of numerous companies linked by long-term contracts and mutual trust –, and in the 1950s and 1960s up to 1,000 genuine cartels that were approved “by way of exception”.
Japan had an average real GDP growth rate of 6.3% between 1950 and 2000 (despite ten years of severe recession since 1991); this was almost twice that of the US and almost three times that of the UK (p. 127). According to neoclassical theory, however, the Japanese economy should have been a “shamble” during this period.
Japan and other large economies in East Asia achieved high economic growth for decades without benefiting from the “advantages of free markets”, while many of the “IMF model students” in Africa and Latin America, which relied on free markets, lay in “abject poverty” (p. 8).
After decades of astonishing neoclassical economists with its enormous growth, the Japanese economy inexplicably fell into a deep recession in the early 1990s. In the late 1990s, unemployment rose to over 3.8 million officially registered unemployed. More than 210,000 companies went bankrupt. This resulted in “immense social commotions” and left a “pile of non-performing loans”. Every year, about 30,000 people took their own lives (p. 10). The extent of the crisis went far beyond what is conventionally understood as a cyclical downturn.
All economic policy measures, such as lowering interest rates or increasing government spending, which according to neoclassical theory should have stimulated the economy, remained ineffective: short-term interest rates fell from 6% in 1991 to 0.001% at the beginning of 2004, and long-term, ten-year interest rates from over 7% to 0.4%. The ineffectiveness of the interest rate policy suggested the use of “fiscal stimulus measures” to provide social security for the country. The national debt rose to a record 150% of the annual gross national product in 2002. But the expected successes failed to materialise. The crisis lasted for more than ten years.
“Traditional economics”, Werner says, is put to the test by the facts that neither a decade of interest rate cuts to record low levels nor a decade of fiscal expansion helped the Japanese economy get on its feet. “It may well happen,” Werner writes, “that theory and reality diverge over a year or two.” On the other hand, when more than a decade of exemplary stimulus measures merely results in glaring underperformance, this can only be taken as a sign that the “mainstream” line of thinking is flawed (p. 11).
The role of the “Bank of Japan”
Richard A. Werner, in whose textbook the study of the Japanese economic crisis occupies a central place, concludes that the responsibility for the crisis clearly lies with the Bank of Japan. Not only did the Bank of Japan deceive the public about the policies it was pursuing, but it also disregarded the Ministry of Finance’s monitoring function (p. 384). It had “continually lowered interest rates, seemingly in line with its zealous assurances that it was doing everything possible to bring about an economic recovery”, while in fact it was practising “an overwhelmingly restrictive monetary policy”, thus artificially prolonging the crisis (p. 423). It pursued goals “that were in line with its own political credo and served to implement structural changes in Japan and create facts that favoured deregulation, liberalisation and privatisation” (p. 414).
The basis for the recession had already been laid by the Bank of Japan in the 1980s by “imposing excessive credit growth ratios on commercial banks”. In a decade of excessive lending, Japan had become the “all-dominant power in the global financial markets”. Japanese investors were doing real estate deals and corporate takeovers at home and abroad. “Around the globe, financial and real assets of all kinds, including works of art and similar treasures, seemed to be targeted by Japanese buyers.” Expansionary bank lending drove up asset prices in the real estate sector and on the stock markets until the speculative bubble burst in 1991 and the house of cards collapsed within a quarter of a year (p. 180).
During the crisis, thousands of deregulation measures had been implemented, which had already been demanded by the USA in the 1960s during the negotiations on a trade agreement: administrative reforms were introduced, the liberalisation of the financial markets was decreed and the cartels were dismantled. But the further the Japanese economy moved away from the traditional post-war structure and towards “US-style shareholder capitalism”, the more lacklustre its performance became. “As US-style shareholder capitalism spread,” Werner writes, “inequality of income and wealth increased. The suicide rate increased markedly, and so did violent crime.”
If you enter the social effects into the equation, there can be no doubt that the decline in the performance of the Japanese economy was even greater and more consequential than the mere figures documenting the collapse in the GDP growth rate show (p. 133).
On the nature of money and banks
“Banking transactions,” Werner writes, “have been an indispensable part of mankind’s economic activities for thousands of years” (p. 212). They stem from an earlier date than coined money. Banking was already widespread in Mesopotamia in the third millennium BC. Banking services were also “at the heart” of the ancient economy. “Bank representatives rose to become influential senators – and senators were active in banking” (p. 211). Between the third and sixth centuries AD, goldsmiths and silversmiths discharged banking functions in Europe, and here, too, banking dynasties were always closely linked to politics and the economy. Banks are the linchpin of every economy; all cashless transactions are processed through banks. But they are not only the “bookkeepers” of an economy, they also supply the economy with new money, which they are allowed to create out of nothing by lending. They decide on the allocation of money and thus on which sectors of the economy grow and which do not. This gives them enormous power and creative competency. As the example of Japan shows, they are also capable of creating, exacerbating and prolonging crises.
“Banks,” Werner writes, “were by no means limited to the deposit and lending business. Their domains also included trade, mining, manufacturing and tax collection (acquiring the right to collect taxes and retain surplus earnings). Banks financed governments and their campaigns” (p. 210). Not least because of their “connection with warfare”, they played a decisive role in the course of world history (p. 212).
Military conflicts kept the world in ever-lasting suspense. Despite all the differences in the circumstances which triggered them, there are also commonalities: “Frequently encountered occasions for armed conflicts lie in the area of economic inequality; rivalries over scarce resources – from water, oil and raw materials to fertile land – play a major role”. There has never been a lack of economic motives for armed conflict (p. 21).
The creation of money and credit out of thin air
What the alchemists in the Middle Ages did not succeed in doing, namely producing gold from lead, the banks achieved as they were able to create money from nothing and to collect interest and compound interest for this money.
The credit business with interest and compound interest is extraordinarily profitable and, in comparison to other industries where new goods are produced, involves little effort. For example, if someone takes out a temporary loan of 100,000 euros at an annual interest rate of 8%, he will have paid back 221,964 euros after ten years; after 30 years it would already be 1,093,573 euros (p. 216). None other than Baron Rothschild is said to have called compound interest “the eighth wonder of the world”.
What makes banks and central banks truly unique, however, is their ability to create money out of thin air. Although commercial banks no longer issue banknotes as they did before the emergence of central banks, the granting of loans has remained their most important business to this day.
When loans are granted, however, it is not about money that already exists and is diverted to new uses; instead, new money is created that would not exist without the loan. “Banks create money out of thin air”. The debtor receives a “fictitious certificate of deposit” or a corresponding entry on his account, although in reality he has made no deposit or only a much smaller one (p. 220 f.). To this effect, the bank uses “creative accounting” by creating “a bookkeeping fiction” that makes it look as if the borrower had deposited corresponding funds (p. 230).
The ability to create credit, or money – the terms “creation of money” and “creation of credit” are used synonymously –, explains why in history, banks have acquired wealth and influence so quickly. It provides “the key to why banks were able to establish themselves in prominent positions in various branches of the economy, to found companies and entire industries and to dominate them – not infrequently even by buying them up”. A licence to print money might make life easier sometimes, says Werner (p. 231).
Money creation by the state
In the course of history, states have also repeatedly made use of the possibility to create money themselves in order to finance government spending. This has the advantage that they do not incur debt, which would force the payment of interest and compound interest. In most industrialised nations, especially in the USA and Japan, liabilities are considerable because of the compound interest effect, so that generations of taxpayers have to pay off the debts.
Thomas Jefferson (1743-1826), the third president of the United States, was an opponent of private central banks. Under his administration, the American Constitution explicitly allowed the government to create its own money. But since the creation in 1913 of the Federal Reserve, which is still privately owned today, there has been an increasing shift away from Jefferson’s course. In thus wandering from the path, states have saddled themselves with a substantial national debt and the associated debt service. Today in the USA, the banking system and the Federal Reserve banks – all privately owned – exercise the monopoly over credit creation.
One of the few presidents to challenge this monopolistic system was John F. Kennedy. “With his 1963 Presidential Executive Order No. 11110 – one of his last – he decreed the issuance of ‘United States Notes’, government banknotes that were visually almost identical to ‘Federal Reserve Notes’ but had nothing to do with the private institution of the Federal Reserve.” After his death, however, no president had the courage to enforce his order (p. 332 f.)
An example from the 13th century is Chinese paper money. In what artful way the Mongol ruler Kublai Khan (1215-1294) had this means of payment produced and how he enforced its acceptance throughout the Mongol Empire is shown in the notes of the Venetian merchant Marco Polo (1254-1324), which Werner quotes at length. This paper money was not backed by gold. On the contrary: the merchants brought the emperor “pearls, precious stones, gold, silver and other valuable things” and exchanged them for those banknotes with which they could buy and pay for everything. And the emperor could control the economic situation at will by expanding or contracting the flow of money (See box: The Chinese paper money).
Namely economically weak and so-called developing countries hope for economic upswing and development to be brought about by foreign direct investment. However, Werner warns, these investments often bring considerable disadvantages with them: on the one hand, foreign investors have their own interests, which often do not coincide with those of the developing countries concerned. And moreover, those in possession of the “real assets” also have the “power of disposal” over the use of profits, over the closure of production facilities or their withdrawal from foreign countries. “So why,” Werner asks, “go into debt abroad, make interest and redemption payments, when you can generate the means [to mobilise domestic resources] in your own country at zero cost? After all, foreign banks do nothing else either; they create money ‘out of nothing’ through the credit creation process” (p. 280).
A new economic policy is needed
Neoclassical economics had its chance to help the world make real progress. It has failed and proved that “free markets” cannot possibly bring about a social optimum in the real world. Therefore, it is time to establish a new kind of economy.
Neoclassicism speaks of “competition” as a “key mechanism”. But in reality, “the market” is much less important for so-called “market capitalism” than is commonly assumed. Economic solutions are “in reality not negotiated in markets, but decreed by allocators [investment banks and other large investors]” (p. 437).
Most of the world’s economic activity is controlled by a few big banks, which are in many ways more powerful than governments. They control the creation and distribution of credit, but are not subject to direct democratic control, and that greatly endangers democracy.
Monetary policy is the most effective creative force in the implementation of macroeconomic goals. Not only does it influence economic growth, but is also able to bring about social change. “Because of the immense power and scope of monetary policy to control and direct national economic resources, it should be entrusted to an institution that is firmly anchored in the democratic process – such as the Ministry of Finance.” How can it be right, Werner asks, that growth-neutral fiscal policy is debated in parliaments, but not monetary policy, which determines both growth and serves redistribution and structural policy (p. 451)?
Fiscal policy – all measures that affect the revenue and expenditure of public budgets, including taxes, or even the issuance of government bonds – is “growth neutral”. Therefore, it should only be used with the greatest restraint. It is exclusively an instrument of redistribution.
“In order to avoid net welfare losses, which arise from unnecessary government debt and uneconomic interest burdens, the principle of a balanced budget should be taken to heart”, Werner demands (p. 450).
The first step in implementing a new paradigm of macroeconomics should therefore be to subject the decision-making power over credit creation and the social allocation of credit to democratic controls and to strive for an economic policy that produces better and more socially balanced results than the currently prevailing mainstream approaches (p. 454). The control of central banks is particularly urgent for this.
But at the same time Werner urges caution: a clumsy intervention by state authorities lacking comprehension will hardly be crowned with success. The state must take care to grant individuals maximum freedom of action and limit the scope of its direct interventions to indispensable occasions. Intervention is necessary specially when credit creation flows into unproductive uses and finances speculative transactions in the real estate sector, the acquisition of hedge funds or takeover activities. In order to prevent the formation of price bubbles and inflation, money must be used for productive and value-creating purposes.
Werner presents the Japanese example of high growth, but also calls for new research. It is necessary, he says, for research to deal much more intensively with the set-up of purposeful institutions, meaningful incentive systems, and with the actual behaviour of people – “a broad field of the highest importance for the theoretical justification and practical realisation of the principles of a legal and economic order” (p. 451). Werner says that a huge research programme will be open to anyone who sets out on the path to a new kind of economy. What is needed is the courage to think through, debate and apply a genuine, practice-oriented and reality-based economics.
Thirteen years have passed since this textbook was published. I think it has lost none of its topicality. Werner’s even earlier book “Princes of the Yen” (Quantums-publishers.com), which was a bestseller in Japan, will be published in German this year.
Today, there is a growing body of opinion that the gap between rich and poor countries and between the rich and the poor within individual countries is widening. The Corona pandemic seems to be reinforcing this trend.
Not a day goes by that the business section of the newspapers does not warn of a possible or already imminent crash. Prices for shares or real estate have shot up to unrealistic heights, as they did before the Japanese recession, and continue to rise despite the crisis. Money is flowing into the financial industry and not into the real economy. The stock market has degenerated into a casino. And a new computer money system in the form of “cryptocurrencies” is already in the pipeline. Reason enough to give first priority to research for a “new economic policy”.
“We have every reason to shape the world’s economies in a way that offers more room for cooperative behaviour; it is incumbent upon us to establish a socially acceptable form of capitalism that has the welfare of all in mind, and in which everyone will be considered a valuable human being,” writes Richard A. Werner (p. 450). •
cc. Richard A. Werner is a German Economist and University professor. After graduating from the London School of Economics and Oxford University, he taught at the Sophia University in Tokyo, the University of Southampton, England, the Goethe University, Frankfurt, the Corvinus University in Budapest and is currently Professor of Finance at the Fudan University in Shanghai and Professor of studies in Banking and Finance at the De Montfort University in Leicester, England, among others. In addition, he has collected experience in the finance sector, as Chief economist of the British Investment Bank, Jardine Fleming Securities (Asia) in Tokyo, as Senior Consultant at the Asian Development Bank in Manila and as Senior Managing Director of Bear Stearns Asset Management in London, among others. His book, “Princes of the Yen” which was first published in 2001 in Japanese reached first place in the Bestseller list. In 1995, he published, in the Japanese financial newspaper, Nikkei, his proposal for a new monetary policy in order to quickly end the banking crisis, which he named “quantitative easing” and which became known to many central banks. Richard Werner is the founding member and on the board of the Local First Community Interest Company, a non-profit organisation which has also been introduced in Great Britain’s local banks using German cooperative banks and savings banks as models.
“In the city of Khanbaliq is the mint of the Great Khan. The way it is wrought is such that you might say he had the Secret of Alchemy in perfection. I will demonstrate that to you here and now.
He makes them take of the bark of a certain tree, in fact of the Mulberry Tree, (the leaves of which are the food of the silkworms). He takes from it that thin inner ring which lies between the coarser bark and the wood of the tree. This being steeped, and afterwards pounded in a mortar, until reduced to a pulp, is made into paper, resembling that which is made from cotton, but quite black. When ready for use, he has it cut into pieces of money of different sizes, nearly square, but somewhat longer than they are wide […]. All banknotes will bear the seal of the Great Khan. The issuing procedure is as official and highly official as if they were made of pure gold or silver. Specially appointed officials sign their names on each piece of money and set their own seal. When the procedure is completed according to all the regulations, the chief of the officials appointed by the Khan dips the seal bestowed on him or the bull entrusted to him in vermilion and presses it on the upper side of the money note so that the shape of the seal in vermilion adheres to it.
The Money is then authentic. Any one forging it would be punished with death.
And the Grand Khan causes every year to be made such a vast quantity of this money, which costs him nothing, that it must equal in amount all the treasure in the world. With this money, which is manufactured as I have just described, everything is paid for: in all the provinces, in every kingdom, in the entire imperial sphere of influence, it is the only means of payment. If anyone refuses to accept it, he faces the death penalty. But I assure you, every single one, all the peoples of the empire gladly accept these papers as a means of payment, because wherever they go, the notes are valid everywhere; people purchase goods, pearls and gold and silver with them. With these pieces of paper they can buy everything and pay for everything. And the notes, which are worth as much as ten Byzantines, don't even weigh as much as one.
Often in the year, traders come to Khanbalik in groups and bring the emperor pearls, precious stones, gold and silver and other valuable things such as gold and silk fabrics. The Great Khan calls twelve officials to him. These have been elected for the office of examining and valuing the merchants' goods and paying out the corresponding value in paper money. The twelve experts examine everything as they see fit, set the price and pay it in paper currency. The merchants are happy about the notes, because they can use them to buy anything they wish and like in the great Tartar Empire.
It is the plain truth: several times a year, the merchants deliver goods worth about four hundred thousand Byzantines; the emperor remunerates everything in paper money.
But listen further: Often in the year, the order is made known in the cities that every owner of precious stones and pearls, of gold and silver, must bring everything to the imperial mint. Everyone obeys, and a vast number of precious objects accumulate and are converted into paper notes. In this way, the metals and stones from all over the empire pile up in the treasuries of the Great Khan. And all the Khan’s armies are paid with this paper money.
I have now told you how it is that the Great Khan possesses more treasure than anyone else in the world. I can go further and confirm that all the powerful people in the world together do not possess as much as the Khan alone.”
Marco Polo, quoted after Werner, p. 213f
(Tanslation Current Concerns)
If you want to prevent the setting of cookies (for example, Google Analytics), you can set this up by using this browser add-on.