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Faith in the Invisible Hand of the Market is Over

by Peter Ulrich Wednesday, Mar. 11, 2009 at 4:21 AM

The people will not be so easily convinced of liberalization, deregulation and privatization. On the contrary, people will have a clearer consciousness of the primacy of politics. The false incentive systems in the businesses must be removed.


Interview with Peter Ulrich

[Peter Ulrich believes the global financial crisis ends the deregulation mania and the time of boundless greed and pursuit of profit winds down. For the economic ethicist at the University of St. Galen, the chance of redefining the social market economy is offered today. This interview published in: Context 10, September 29, 2008 is translated from the German on the World Wide Web,]

The financial crisis is incomprehensible for many people. How could rotten American mortgages grow into a global catastrophe? What happened?

Peter Ulrich: The powerful soil that made possible the financial crisis is paraphrased journalistically as neoliberalism. The central idea of this doctrine was always: “the market will do everything.” This strange pre-modern faith trusts an anonymous mechanism operating behind our backs that miraculously ensures everything will be fine if everyone only thinks of himself. In this financial crisis, deregulation and excessiveness reinforce each other.

The ideology of the free market was propagated since the times of Margaret Thatcher and Ronald Reagan.

Peter Ulrich: For two decades, a spirit was preached that supposedly relieves us from every demand of moral self-restraint. Freedom and the free market were emphasized but the other side of this coin was ignored. The backside of freedom is always responsibility.

Did irresponsibility lead to today’s financial crisis?

Peter Ulrich: Taking great risks has become socially acceptable and even a norm in certain areas like banking and finance. While deregulation assumes the personal responsibility of all economic actors, this personal responsibility was lacking. Deregulation has literally provoked profit thinking. There was the hope for more output with greater profit incentives. As a result, productivity would automatically increase and this would be good for everyone. In businesses, incentive systems based only on money were introduced as though leaders are primarily motivated monetarily. Higher and higher variable wage components were introduced. With “performance-based” bonuses, only success on the market counted. The idea of humane work did not even arise. The focus was on short-term performance outcomes on the stock exchange. Assurance of long-term success hardly mattered. These are obviously false incentives.

Critics like the Nobel Prize winner for economics Joseph Stiglitz say large parts of corporate profits disappeared in the pockets of management. Is that true?

Peter Ulrich: Managers are salaried leaders who under the false incentives obviously identify more with their own advantage than with the business as a whole. A “manager value” replaces more and more the much-maligned “shareholder value.” A growing share of the operating profit flows into managers’ pockets. This can be shown empirically. There are even cases where more than half of the profit went to the managers and not to the shareholders.

Salaries in the millions were justified independent of the billions in profits. What is your response?

Peter Ulrich: That is a very dubious argument because it assumes only a distribution conflict between shareholders and managers is involved and normal employees are not affected. This view reflects a feudal economy. A business belongs to the owners plus the cadre, it is suggested. In fact and truth, business success is achieved collectively by the whole work force.

Why don’t managers face the question of their own responsibility? Did that totally disappear from their horizon?

Peter Ulrich: The actors do not have any consciousness of injustice. But the reality is even worse. Whoever urges just distribution of the profits was immediately accused of envy. This envy debate only had the goal of preventing a justice debate. The question about justice is repressed. The profits only flow to a small part of the population. The rest, the overwhelming majority, has received nothing from the greater aggregate cake – though most people work longer and more intensively than 20 years ago. Everyone pays the price of economic growth but only a few share in the benefits.

Excessive income differences can ultimately endanger a society. How do you judge the risks caused by growing injustice?

Peter Ulrich: We have a distribution problem. The disparity of incomes and assets becomes ever greater. Sooner or later this calls the legitimacy of our economic order in question. In the past-war time up to 1973, everyone benefited in the general upswing, whether through higher wages, reduced working hours or cheaper industrial products. Everyone shared in the benefits of growth. The real market economy was accepted despite its basic capitalist structure. The profiteers of the present situation can deceive themselves when they simply assume this unquestioning approval.

Is a change of opinion occurring?

Peter Ulrich: I think we will see in retrospect in a few years the 2008 financial crisis irreversibly changed the perception of the broad population. Faith in the invisible hand of the market is over. The people will not be so easily convinced of liberalization, deregulation and privatization. On the contrary, the people will have a clearer awareness for the primacy of politics. What is involved is not simply more state or less market but the insight that a functioning market economy is a legal state and not a natural state or pure jungle.

Are new regulations needed?

Peter Ulrich: A disordered market tends to destruction. So the founder of the liberal economy, Adam Smith, saw the market. The free enterprise framework cannot be abandoned to lobbyists because they pursue pressure-group politics. For example, our two leading branches, pharmaceuticals and finance, successfully fight for state protectionism and not for free competition. The fattest profits are raked in by preventing competition. Public well-being and not particular interests must dominate our economic system.

Is the financial crisis a temporary phenomenon or can it expand to a global system crisis?

Peter Ulrich: I hope not. Historical experience now teaches us stronger rules of the game and more transparency are needed. The banking commission will demand that the banks have greater resources of their own. Global involvement with the financial markets is dangerous. Trillions float daily or even hourly around the world. 95 percent of these funds are probably purely speculative transactions that only refer to themselves and do not help finance the real economy. Even specialists can no longer see through the highly complex financial products.

Could the financial crisis have been avoided with a tax on purely speculative financial transactions? Critics have long demanded such a tax.

Peter Ulrich: The so-called Tobin tax will certainly be discussed again in the next years. Curbing financial speculations is central. In the case of the financial crisis, the Tobin tax will probably not help much. Inferior mortgages of un-creditworthy debtors caused the crisis, not fast money. These mortgages were passed on through guarantees. It was like a chain letter. Everyone hopes he will pass on the risk. Finally, the banks ignorantly bought the large part of these risk in bundles. They relied on the notorious ratings of big agencies that are always relative. A Swiss citizen could ask why UBS (mammoth Swiss bank) put 40 billion francs in this basket when every layperson knew eggs should be put in different baskets. A combination of greed and deficient professionalism stood behind this decision. Otherwise this cannot be explained.

Back to the measures that are necessary now. What must be urgently changed in your opinion?

Peter Ulrich: The false incentive systems in the businesses must be removed. This can happen relatively quickly, within a few weeks if the will exists. The change of mentalities requires more time. Changing the framing political conditions for the financial markets also needs time. Lowering the share of so-called success-dependent compensation would be sensible. Every second Zurich banker cannot expect a bonus of millions before Christmas. Secondly, bonuses must be oriented in lasting business success over four or five years.

But managers will not willingly accept this.

Peter Ulrich: Latent resistance or the attempt to pocket higher salaries instead of exorbitant bonuses can certainly be expected. The compensation packages could be drastically driven down. Some would prefer a stable income to volatile jumps. Younger bankers and junior employees in businesses do not want to wait for years for cash. Their position is more difficult.

How can these necessary reforms be carried out?

Peter Ulrich: The Swiss banking association under the watchful eye of the banking commission could issue new standards and best-practice recommendations. The private economy that is not always so private should have the change of regulating things itself. The insight that positions change quickly encourages me. A short while ago the decision-makers in a stock corporation could agree on a salary system. In England, the top salaries have fallen dramatically…

Do you agree we are in a “post-neoliberal era” without realizing it?

Peter Ulrich: That is a good summary. Fundamental upheavals are first recognized afterwards. We can only seek evidence in the present. One interesting sign is that for two or three years no one could be found who would describe himself as a neoliberal or follower of the shareholder value doctrine – with the possible exception of the NZZ newspaper editors (Neue Zuricher Zeitung). A withdrawal movement is underway. Until recently, the mainstream rejected the greed reproach as bizarre or inept. Today the president of the Swiss bankers association speaks very critically about this. I would describe this more as a form of populism.

Do we face a phase in which the social market economy will be reconsidered?

Peter Ulrich: Seen historically, the concept of the social market economy was an integration formula uniting the advantages of the market economy and social justice. This formula stood as a mark of the Cold War and system competition. A middle way was sought between a state controlled economy and capitalism. Unfortunately, one must admit from today’s perspective, the idea of the social market economy faded greatly in globalization. In Germany, the social disparity increases as much as in other countries. The social market economy functioned well in the economic miracle but did not withstand the endurance test of international “location competition.” What is necessary today is less a return than a new clarification how a socially friendly market economy can be organized.

Have you developed a vision about this?

Peter Ulrich: My firm belief is that we must raise the question about the society in which we want to live. We have a social order that is not modern any more. Look at Germany. The country is still an export world master but has a million jobless. The social problems today are the backside of a history of economic success. Social problems cannot be solved through more competition and/or more growth because these are the causes of today’s situation.

Tell us how our concept of society must be tested.

Peter Ulrich: My guiding personal idea is a “civilized” market economy integrated in the principles of a society of free and equal citizens in which the distribution of property is coupled to citizen status and no longer to success or failure on the labor market. The labor market is strained in having to achieve social integration in a highly productive national economy. The symptomatic consequence is the growing need for compensatory income support unworthy of free citizens. Preventing the genesis of this “neediness” from the start would be wiser. Thus the primary distribution of the gross domestic product should be partly uncoupled from the labor market. A minimum in justice could be produced this way that would help relieve the market economy of follow-up costs that are increasingly burdensome today in the form of non-wage labor costs and social security contributions. The guiding question must be: What social-political prerequisites must be created so the market forces are not debilitating?

Are there examples of such reforms?

Peter Ulrich: The Scandinavian countries understood this, particularly the very competitive Denmark. Denmark has a largely deregulated labor market but no one falls out of the social contract. The social integration, the possibility of a decent life for all, was secured first. Afterwards deregulation occurred in this framework. The costs of the society in which we want to live are a matter of taxpayers, not of wage percentages. Social market economy means an efficient and highly productive market economy embedded in a society not completely subjected to the economic logic. This society could offer the chance of a decent life to all citizens with a guaranteed basic income.

Isn’t that a utopian concept?

Peter Ulrich: I am not sure. If the privileged sectors were intelligent, they would be for this concept. Then distribution of prosperity would not be left to the market. A guaranteed basic income for all would be a base income freeing all citizens from the pressure of having to sell themselves for any price on the labor market. That would be an emancipation corresponding to the original middle class ideal.

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