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The precipitous rise in global and national economic inequality, which the inexorable force of globalization promised to address with affluence and abundance for all, has returned with a vengeance. The problem of worsening socioeconomic inequality and how best to ameliorate this pernicious resurgence occupies center stage of national and international politics. This study investigates the coexistence of high rates of economic growth and unparalleled prosperity (including a review of the decline in poverty levels in China and India and many other developing countries) with rises in income and wealth inequality in the United States, China, and India. This book examines the overall effectiveness of the measures taken by these three countries to address such anomalies, and what they should do to tackle the problem of widening inequality. This study breaks new ground by providing an original comparative analysis of the challenges facing the world's three major economies.
In September 2008, the U.S. economy (indeed, the global economy) teetered on a precipice of a depression that would rival the scale of the Great Depression. In a matter of weeks, several of the world’s premier financial institutions had collapsed, credit markets had ceased to function, trillions of dollars in household savings had evaporated as stocks, pensions, and home values plummeted, and hundreds of thousands of people had lost their jobs. As widespread feelings of loss, insecurity, and panic gripped the land, authorities jumped into action to avert a large-scale economic depression. Leading the charge for bold and vigorous action was the Federal Reserve’s Ben Bernanke. An economic historian, Bernanke understood the cost of inaction and of inappropriate action. After all, Milton Friedman and Anna Schwartz’s classic A Monetary History of the United States – which has long provided the standard history of U.S. monetary and financial experience – warned about the dangers of both. Friedman and Schwartz had compellingly argued that the crash of 1929 rapidly morphed into the Great Depression because of the Federal Reserve Board’s inept response, which resulted in a large contraction of the U.S. money supply. This view has long been conventional wisdom, to the point that scholars of the Great Depression uniformly blame that era’s policymakers for making a bad situation worse by failing to decisively respond to the unfolding economic crisis. Clearly, Bernanke was determined not to repeat these errors. Seen in this context, Bernanke’s strong support of the Bush, and later the Obama, administrations’ massive stimulus program, including the decision to drive interest rates rapidly down to essentially zero was hardly surprising.
In early September 2008, as the subprime-induced financial contagion began to rapidly spread throughout the U.S. financial system, Europeans were confident that their economy would remain immune. German finance minister Peer Steinbruck scornfully dismissed the financial crisis as an “American problem” – the result of Anglo-American greed and inept regulation that may very well cost the United States its “superpower status.” Similar sentiments were echoed in other European capitals (Nicoll 2008). Italy’s prime minister, Silvio Berlusconi, blamed the spreading crisis on the “speculative capitalism” of the United States, Gordon Brown, the British prime minister, noted that the crisis “has come from America,” French leaders flatly blamed the “le capitalisme sauvage” of the Anglo-Americans – excoriating their worship of the markets and lack of business ethics and moral discipline – and the Kremlin saw the crisis as a Western problem that would leave Russia unscathed (Evans-Pritchard 2008). Indeed, in June 2008, Russian president Dimitri Medvedev unabashedly predicted that the Russian ruble would be the future reserve currency of Eurasia (Trenin 2009).
It is hardly surprising, then, that on September 19, 2008, when the Bush administration finally cobbled together an unprecedented $700 billion “rescue plan” to help distressed financial companies, the Europeans condescendingly rebuffed Treasury Secretary Hank Paulson’s pleas for a collaborative U.S.-European rescue effort. However, Europe’s immunity was short-lived. The Europeans’ sense of hubris and complacency was abruptly shattered as the Continent began to scramble to prevent a fast-moving contagion from bringing down major banks, wrecking financial markets, and negatively impacting national economies (Table 3.1).
In an ironic and cruel twist the global economic crisis emanated from the world’s largest and most advanced economy (the United States) rather than from the profligacy and mismanagement typically associated with the emerging-market and developing countries. In fact, when the subprime-induced global crisis broke out in the United States in mid-2007, the macroeconomic positions of most developing countries, including the large emerging market economies such as China, India, Brazil, as well as many of the world’s least-developed countries (LDCs) were robust (AfDB 2010; World Bank 2007). The economic prospects for sub-Saharan Africa had never looked brighter (World Bank 2008b). For the first time in decades the region’s GDP was growing at a comparable rate with the rest of the developing world – except China and India (Tables 9.1 and 9.2). Private-capital flows to Africa totaled an unprecedented $55 billion by the end of 2007 (World Bank 2008a; Ezekwesili 2009). Similarly, FDI flows to LDCs saw dramatic expansion – a sixfold increase between 2000 and 2008. On the eve of the crisis FDI flows exceeded $32 billion (UNCTAD 2010, 7). Coupled with extensive debt relief (mostly in the form of debt write-offs) under the HIPC (Heavily Indebted Poor Countries Initiative) and the Multilateral Debt Relief Initiative (MDRI) and adoption of prudent policies, many LDCs were finally able to reduce their external debt burdens and improve the living standards of their citizens.
The months of August–September 2008 will forever be remembered as the time when the economic tsunami hit Wall Street. On September 7 the venerable “models” of mortgage finance (the government-sponsored enterprises Fannie Mae and Freddie Mac), which together had more than $5 trillion in mortgage-backed securities and debt outstanding, collapsed. The authorities placed both into conservatorship in the hopes of stabilizing the housing and mortgage-finance markets. This clearly did not happen. On September 15, the world witnessed the fire sale of the investment bank and stock-market “bull” Merrill Lynch to Bank of America and, more ominously, the bankruptcy of the 154-year-old investment bank, Lehman Brothers, the largest company ever to fail in the United States. The collapse of Lehman (which had more than $600 billion in assets and some 25,000 employees), proved to be a fork in the road – an inauspicious event – that transformed the subprime crisis into a catastrophic global financial crisis and ushered in the “Great Recession.”
As Lehman was a counterparty in many financial transactions across several key markets, its failure predictably triggered defaults on contracts all over the world. Lehman’s collapse rapidly reverberated throughout the financial system, destroying confidence in money market funds, which in turn, exacerbated problems in the commercial-paper market. Deeply concerned that a massive run on the money markets could destroy the commercial-paper market and thereby bring the entire economy to its knees, the Federal Reserve Board intervened by providing liquidity to money market investors and insured all money market deposits (Allen and Moessner 2011; Mehrling 2011; Wessel 2009). Yet the collateral damage continued unabated. The very next day (September 16), it became public that the nation’s largest insurer, American International Group (AIG), could no longer honor the credit-default swaps (CDS) it had sold to banks. Fearful that AIG’s collapse would have a domino effect and bring down banks and investment firms, the Federal Reserve Board gave AIG an emergency credit line totaling $85 billion to facilitate an “orderly” downsizing of the company.