Towards a New Political Economy of the Crisis: Getting What Went Wrong Right

Abstract

Not only did the global financial crisis transform the prevailing institutions, policies and practices of contemporary capitalism, it also had a profound impact upon the discipline of economics itself. From 2008 a different crisis, one of public legitimacy, engulfed academic economics as critics railed against its failure to predict the onset of unprecedented global economic turmoil. But despite the public focus upon the failings of mainstream economics, the rise of alternative disciplinary and epistemological perspectives has been muted. Scholars of international political economy (IPE), unconstrained by the debilitating equilibrium assumptions of neoclassical economics and keenly aware of the intimate connectivity between politics and economics, might justifiably have expected to make gains during the economics profession's darkest hour. That they have not managed, thus far, to substantially unsettle the intellectual and institutional predominance of economics should not, however, be a source of dismay. Political economy scholars possess the analytical tools to produce a much-needed counterpoint to prevailing academic economics. It is with demonstrating that capacity, and restating the holistic merits of political economy scholarship, that this Special Issue is concerned. Bringing together a number of diverse theoretical perspectives and employing a wide range of conceptual categories, this Special Issue showcases the rich variety of IPE scholarship and its collective capacity to generate much deeper and more holistic analyses of the global economic crisis than those provided by the reigning economics orthodoxy, and in doing so, to get what went wrong right.

Keywords:

• political economy
• global financial crisis
• economics
• equilibrium assumptions

Capitalist crises are times of great transformation, unsettling established political relationships and social structures and challenging reigning ideas. The effects of the present crisis, though starkly uneven in their distribution, have been felt in all corners of the globe and across all sections of society – mapping, in effect, exposure to the risks of Anglo-liberal globalisation. Capitalism in crisis means not only stuttering growth or stagnation, but also the dislocation of prevailing societal patterns and the exacerbation of existing social, economic and political tensions. This makes it both all the more remarkable and all the more shocking that mainstream economics prepared us so badly for all of this. It gave us no sense of the gathering storm, confidently telling us, as in the eerily un-prophetic words of Lucas in his Presidential Address to the American Economics Association, that ‘for all practical purposes … the central problem of recession prevention has been solved' (2003: 1). It is difficult to get something so staggeringly important so profoundly wrong. That it did so, and that Lucas' words were expressive of a then pervasive consensus within the discipline, is testament to the hold over it of dubious equilibrium assumptions and its spurious preoccupation with prediction. Unremarkably, conventional economics still struggles with the crisis and has proved ill-equipped to respond to its challenges.

Given this, it is perhaps unsurprising that the discipline of economics has suffered something of a public legitimacy crisis in the wake of the storm of 2008. The failure to predict the crisis was widely interpreted as a failing of mainstream economics on its own intellectual terms. An academic field which had put so much stock in the predictive capacity of mathematical modelling and deductive reasoning was seemingly stumped by the way in which events unfolded since the onset of the crisis. The scale of the failure prompted Greenspan (2013), the former head of the Federal Reserve, to speak of an ‘existential crisis for economic forecasting'. Add to this the scandals that have since beset those influential economic models that did prosper in the immediate aftermath of the crisis (think Rogoff–Reinhart), alongside economics undergraduates rebelling against the staid orthodoxy of the ‘economics 101 curriculum’ (Moore 2013, Inman 2014), and the picture of a discipline in disarray starts to paint itself.

Yet despite the controversy and infighting within which professional economics have become embroiled, the advocacy of alternative epistemological perspectives and disciplinary contenders, which we might justifiably have expected, has been somewhat muted. Indeed, the enormous hype and discussion associated with Piketty's (2014) ground-breaking volume, Capital in the twenty-first century, appears to have confirmed, if anything, the enduring predominance of economists in the debates to which policy-makers pay attention. The content of the economics is certainly a little different to that of the neoclassical orthodoxy which reigned supreme in the pre-crisis era, and we should perhaps be grateful for that, but the core debate for policy-makers remains that with the discipline of economics. Arguably this has to change.

As scholars of international political economy (IPE), we might quite reasonably have thought that now was the time for our own field to gain greater access to the debate. But this has yet to happen. There are, undoubtedly, several reasons for this. One is, quite simply, the privilege of incumbency. It would surely be naïve to expect economics to be unsettled from its predominant intellectual and institutional position overnight. Too many commitments of resources, careers, entrenched ideas and powerful interests are at play for the primacy of economics within the social sciences to simply melt away. This is something that scholars of political economy (well versed, as they typically are, in institutional and ideational path-dependencies) should be particularly well placed to appreciate. Yet, however powerful and seemingly entrenched the incumbency effect may seem, scholars of IPE should not exogenise entirely the sources of their continued exclusion from the debate. For part of the problem, we would contend, rests a little closer to home.

One of the more obvious endogenous reasons for the failure of IPE to make greater gains in the public debate since the crisis stands out. It is the comparable, although certainly less acute, process of soul-searching and reflection that has gone on within the field in recent years. There is a certain irony here. For some of the agonised introspection that has occurred in IPE in recent years is itself a product of a similar perceived failure to have better anticipated the likelihood and nature of the crisis (Cohen 2009). Though, of course, not entirely inappropriate, the judgement is a harsh one and, unsurprisingly, it has itself been contested by, amongst others, those within the field with a rather better track record in anticipating the crisis (notably Helleiner 2011). But the point is that IPE scholars, like their economist counterparts, have been fighting themselves – an inauspicious way of going about making the case for IPE as an alternative to mainstream economics as the policy-makers' guide to the risk, uncertainty and instability of the global economic order we have made.

In fact, the debate started a little earlier. It was not only the global financial crisis (GFC) that broke in earnest during 2008, but also a significant debate within IPE as to just what does and should define the intellectual contours of the discipline. Cohen's (2008) intellectual history of IPE sparked a prolonged debate about the relative merits of the two differing schools of IPE identified in his seminal survey of the field. Whereas the ‘American School’ of IPE gave priority to the scientific method and an analysis based upon positivism and empiricism, the ‘British School’ tended to pursue a more ambitious agenda that broke from concerns with the rigours of the nomothetic scientific method. For Cohen (2008: 4–5), these two geographically distinguished groupings represented ‘two separate branches of a common research community.’ For others, there was less commonality as there could only be one way to conduct IPE – their way, the better way.

With the benefit of hindsight, then, the synchronicity of the publication of Cohen's book and the outbreak of the crisis has proved rather unfortunate. At a time when scholars of IPE should perhaps have been turning their minds to ways to proselytise and defend the comparative pluralism of their research, drawing attention to the diversity of the analytical insights they could bring and were bringing to the crisis and to the challenges it posed, much of their energy, and many pages in academic journals, were diverted to comparing, contrasting and contending the relative strengths of the ‘British’ and ‘American’ schools of IPE.

Thus, the success or failure of the different camps within IPE to anticipate the crisis, however construed, became fodder to be deployed in the on-going debate over how best to conceptualise the field along a contested transatlantic axis (Cohen 2009, Palan 2009). Of course, there are very good reasons to engage in a meta-theoretical debate about the nature of our field, but for this to be so prominent during the early years of the crisis does appear to have been a rather unfortunate diversion of intellectual energy away from the immediate changes at hand within the global political economy.

The result has been to detract us from what should have been centre stage in our response to the crisis: promoting the richness, diversity and imaginativeness of IPE scholarship and the depth and range of analytical enlightenment that these approaches can bring to the subject of the crisis (in contrast to the narrowness of prevailing orthodoxies), in its most multifaceted sense. By demonstrating that capacity and generating original and illuminating scholarship, IPE provides one of the strongest challenges to the largely self-imposed confines of prevailing economic thinking. It is with demonstrating that capacity that this Special Issue is concerned.

As Andrew Baker's contribution to this volume informs us, different kinds of crisis produce different forms and temporalities of ideational change (some more punctuated and immediate than others). The epistemological crisis of economics may, therefore, take quite some time to filter through to tangible changes within its intellectual landscape (if ever it does) and IPE scholars should continue to assert the richness of our diverse and inter-disciplinary approaches, without becoming disheartened by the apparent entrenchment of economics.

In this Special Issue, contributors demonstrate how this avowed inter-disciplinarity of political economy and its refusal to adopt equilibrium assumptions provides the basis for a different and better understanding of the crisis. Holistic crises of capitalism are best understood with a holistic approach that breaks down the disciplinary barriers between economics and politics, focusing on the common thread of social power processes that undergird them – and by approaches for which the very fact of crisis itself is not the refutation of a long-standing core assumption. By treating politics and economics as inter-related parts of a complex and dynamic whole, such a political economy demonstrates that the sum is bigger than the parts. As the various contributions to this Special Issue show, political economy thus understood is well placed to pose the right intellectual questions of the crisis and to guide us towards appropriate responses.

The six papers brought together in this Special Issue are distinguished both by the range of elements of the crisis that they consider and by the innovative methodologies that they bring to bear upon them. Previous journal Special Issues have tended to be more narrowly focussed on the financial dimensions of the crisis and the need for financial market re-regulation. Thus, an earlier Special Issue in NPE (2010) dealt specifically with the financial dimension of the subprime crisis, while the Review of International Political Economy (2012) published a Special Issue on the financial aspects of the crisis; Government and Opposition (2014), too, has recently published an important and timely Special Issue on financial power. Set in such a context, our approach is a little different and somewhat more inclusive. In this Special Issue, we offer a much broader treatment of the crisis, one that addresses the multiple societal inter-connections within the political economy of crisis. What began as a specifically ‘financial’ crisis has developed into something much more universal in those regions most gravely afflicted. Contributions to this issue reflect the increasing maturity of crisis politics and the growing sense of an IPE entangled in crisis from root to branch.

Now six years into the present epoch of crisis politics, we are able to trace more coherently the transformative processes underway while also reflecting on the continuities with the pre-crisis era. Contributors provide a well-balanced exploration of our collective capacity (institutional as well as intellectual, political and societal as well as economic) to tackle the present crisis. The articles address the crisis from diverse theoretical standpoints and make new use of a wide range of conceptual categories (some new, some long-standing). Together they span a variety of levels of analysis whilst encompassing an extensive array of social actors. Broadly, the contributions can be categorised into three distinctive groupings.

The contributions of Andrew Baker and Ronen Palan focus primarily upon the theoretical/conceptual questions of political economy that have been raised by the crisis, situating the crisis in a wider historical context of changing macroeconomic and regulatory paradigms and evolving conceptions of value respectively. Andrew Baker's important contribution refines our understanding of the way in which processes of ideational change play out in the politics of crises. Baker contrasts patterns of regulatory change within two distinct but related fields: financial regulation and macroeconomic policy. Drawing upon Hall's (1993) seminal work on the three orders of policy change, Baker explores the role of two contextual variables in shaping the outcomes of persuasive struggle and ideational change during crises. These two variables, the variety of the crisis, on the one hand, and the institutional character of the policy subsystem, on the other, are shown to affect the patterns of ideational change in different policy spheres. Deploying this analytical framework, Baker's article demonstrates that financial regulation and macroeconomic policy respond to different crises in different ways.

Financial regulation is much more likely to respond to dramatic banking crises because, within these conditions, it becomes much easier to make a convincing case in favour of the need for regulatory change. In the realm of macroeconomic policy, contrastingly, Baker suggests that policy change is much more likely to emerge as a result of a gradual build-up of macroeconomic underperformance akin to the crisis decade of the 1970s. This means that while a radical overhaul of financial regulation can occur relatively rapidly in the aftermath of a crisis, as has been demonstrated with the rise of ‘macro-prudential’ financial regulation post 2007/8, substantial change within macroeconomic policy is a much more gradual and longer term process. In this regard, both macroeconomic policy and financial regulation represent and function as distinctive policy subsystems, which are characterised by different political dynamics and respond to stimuli from the wider economic system in divergent ways. Concluding his analysis, Baker suggests that there is a crucial and underappreciated relationship between the variety of crisis, the different interpretative responses that these varieties generate and the patterns of ideational and institutional changes that result from them. Simply to speak of crisis and response in general terms, then, leads us to neglect the nuanced varieties of crises and the distinctive forms and tempos of change that they generate.

Ronen Palan's excellent contribution to this issue draws attention to a rather different, but equally significant and neglected, conceptual dimension of the political economy of crises. Drawing upon the work of Commons (1959), one of the forefathers of evolutionary economics, Palan's article provides a sophisticated exploration of the link between futurity, pro-cyclicality and financial crises. Beginning with a historical account of the transformation of assessments of value within capitalism, Palan charts the rise of the concept of ‘futurity’ since the later nineteenth century, arguing that the assessment of present value on the basis of expected future earnings, has become dominant within contemporary capitalism. The consequences of this are, Palan suggests, hugely significant. The rise of futurity and of intangible value leads to an inherent pro-cyclical tendency within financial markets. During the good times, growing confidence about the future leads to a rising volume of stocks and asset price levels. But when panic sets in and a crisis breaks out, the same process of future-oriented valuation leads to a negative spiral of falling prices and declining asset values. Crucially, Palan suggests that these pro-cyclical tendencies are endogenous not only to the financial system, but also to the entirety of contemporary capitalism. The key inference to be drawn from his analysis is that recurrent crises are almost inevitable within a financial system that is dominated by the principle of futurity and its inescapably pro-cyclical bias.

The articles in the second grouping are distinguished by their intelligent and imaginative deployment of marginalised analytical categories in order to illuminate overlooked dimensions of the crisis. First, Johnna Montogmerie and Mirjam Büdenbender build their enlightening analysis around the category of the household, using that category to critique the predominance of asset-based welfare and rising levels of personal debt in Britain: a key component of the failed growth model that drew Britain into the financial crisis. By opening up the category of the household to critical examination and challenging the generalised notion of households as ‘asset-holders', they politicise the category and reveal the uneven nature of asset-based welfare through the housing market.

In particular, Montgomerie and Büdenbender draw attention to the marginalised groups that suffer as a result of the vagaries of asset-based welfare (Watson 2008, Finlayson 2009,Hay 2013) and the attendant distributive injustices that arise from this system. They argue in favour of an ‘everyday political economy framework’ (Watson 2010, Seabrooke 2012), but suggest that such an approach when applied to homeownership needs to be much more sensitive to the different, ‘places, spaces and bodies that enact everyday life'. This, they argue, enables an analysis that avoids the reproduction of generalised assumptions relating to individual preferences and financial subjectivities which obscure the power relations and politics at the heart of the household. Instead, they conclude by calling for an approach that is much more attuned to the key spatial and social contexts that shape daily life.

Drawing attention to a similarly underexplored dimension of the crisis, Magnus Ryner and Eric Bengstsson elucidate the important connections between finance-led capitalism and the falling wage share of national income within the advanced capitalist economies. They argue that these two developments are integrally related and that, accordingly, we cannot understand the political economy of the crisis without also understanding important changes in the patterns and effects of working-class agency and the expansion of finance. Ryner and Bengstsson draw on a wide range of scholarship, including regulation theory and the work of Walter Korpi, in order to build an innovative theoretical framework that situates both the declining wage share and the key characteristics of financialised capitalism, within the historical transformation of the global political economy. They focus in particular upon the transition from Fordism to Post-Fordism, arguing that this has occurred alongside major distributive shifts along two related axes: from labour to capital, on the one hand, and from ‘productive’ to ‘financial’ capital, on the other hand.

Crucially, the generation of new sources of demand in the financialised epoch of capitalism relies no longer upon the integration of mass production and mass consumption associated with Fordism, but rather with an ever-increasing extension of debt. These growing debt burdens, which were absolutely central to the emergence of the financial crisis, are underwritten by increasing asset values and debt-based growth models that are driven by liberalisation of capital flows, privatisation and the growing importance of risk management brought about through securitisation. The counterpart of these developments towards a more finance-led form of capitalism has been a decline in working-class agency through traditional forms of expression such as trade unions. Overall, Ryner and Bengstsson raise our awareness of the important role of distributive struggles between social classes in generating macroeconomic imbalances and financial instability.

Our final grouping of authors examines the interaction between key sites of systemically significant institutional power and the political economy of the crisis. In her article, Anastasia Nesvetailova investigates the growing importance of shadow banking within contemporary capitalism and its significance for understanding the crisis. Taking issue with prevailing interpretations of shadow banking, which view its emergence as a response to regulatory arbitrage within the global financial system, Nesvetailova provides a contending interpretation by drawing on insights from heterodox macroeconomics. Her account stresses the centrality of shadow banking as an integral feature of the contemporary financial infrastructure. By stressing this ‘infrastructural’ quality of shadow banking, Nesvetailova emphasises its essential functional role within contemporary finance and argues that the origins of the GFC lie not in the irrationality, speculative mania or over-exuberance of financial markets, but rather in a deeper characteristic of modern finance. In a highly original interpretation, Nesvetailova refers to the crisis of 2007/8 as one defined by the notion of an ‘overcrowded future'. Similarly to Palan's article in this issue, Nesvetailova draws attention to the increased importance of futurity and suggests that the crisis resulted from an overcrowding of the financial channels which bridge the present and the future.

This overcrowding occurred precisely because of the huge concentration of financial values generated through the shadow banking system. Thus stated, shadow banking becomes more a cause of the crisis than a simple symptom of regulatory arbitrage. The growth of shadow banking in the years before the crisis greatly increased the vulnerability of the global financial system, by proliferating complex and opaque forms of securitisation and financial innovation. The demand for these complex products was generated by growing socio-economic inequality, with hedge funds acting on behalf of high-net individuals looking for good returns on investment. Nesvetailova concludes by stressing the centrality of shadow banking and its associated vehicles of debt-based value in producing the financial innovation that led to the crisis.

In the final article of the issue, Stephen Bell and Andrew Hindmoor explore the crucial interaction between the ideas of state officials and the structural power of business in shaping British banking policy during and after the crisis. Bell and Hindmoor argue that the structural power of financial interests within the City of London has declined markedly in the years after the crisis as financial regulation has become politicised once again. By examining the role of state leaders in mediating the structural power of business their analysis complicates traditional conceptions of structural power, which argue for a functional link between structural power and policy outcomes. Rather than simply responding to the dictates of structural power then, state actors constitute a crucial source of agency that mediate business pressures and have the power to shape the outcomes of these pressures.

After reviewing the rise of light-touch regulation in the Anglo-American financial world prior to the crisis, Bell and Hindmoor explore the way in which the aftermath of the crisis pulled British banking out of the arena of ‘quiet politics’ from within which it previously operated and into the public eye. They point out the inadequacy of some of the central reforms that have been proposed, such as the ring-fencing of investment banking activities, arguing that this reform simply does not go far enough in eradicating the ‘too big to fail’ problem or reducing the size of the banking sector as a whole. The major theoretical contribution of their illuminating article is to stress the role that ideas and interpretation play in the mediation of the structural power of business: they show that politicians and regulators were able to filter the threats or relocation made by banks in response to proposed new legislation, adjudicating that many of these threats simply were not credible. In an important parallel with Andrew Baker's contribution to the issue, Bell and Hindmoor demonstrate the central role that ideas and interpretation play within the political economy of crisis.

Taken altogether, the articles in this issue provide an important restatement of the vitality of IPE scholarship and its unique capacity to provide analytically and empirically rich explorations of many different dimensions of the crisis of 2007–8. Making sure that this sort of knowledge receives the attention that it merits will, in the long term, be important to challenging the predominance of conventional economic thinking. Despite the important cleavages within our richly contested field of IPE, scholars must not lose sight of the importance of that task for learning lessons from the crisis and producing a better global political economy in the future. Central to that task as, in their different ways, each of the papers in this Special Issue shows, is a recognition of the always politically mediated and politically contingent character of economic dynamics. If we are better to prepare ourselves for future crises we need an analysis of economic processes that acknowledges this – a political economy as distinct from an apolitical economy. There is no economics without politics, just as there is certainly no modern politics without economics (in the sense that any contemporary politics has economic conditions of existence). That is why it is such a shame that the disciplinary division of labour between professional economics and political science has produced a cavernous gap where once there was a pre-disciplinary political economy (the political economy of Adam Smith, David Ricardo and Karl Marx). Disciplinary parochialism and the disciplinary professionalisation with which it is so often associated prepare us very poorly for the analysis of the politics in our economics and the economics in our politics.

But if we are right and the economic has always been political, just as the political has tended to be economic (in the sense that any contemporary politics has, and is increasingly seen to have, economic conditions of existence), then why is this any more important today in times of acknowledged crisis? The answer lies in a second core theme of this collection of papers, uncertainty – something else for which the disciplinary fault-lines between economics and political science does not prepare us well.

The point is a very simple one. Uncertainty is precisely what mainstream professionalised neoclassical economic theory seeks to deny. In short, the economics in and through which we have been governed for far too long is based on a series of analytical fictions which pretend, in effect, that economic systems can be modelled with certainty and without the need to factor in the inherent indeterminacy which comes from the human character of economic behaviour. By contrast, uncertainty is a constitutive premise of political economy, all political economy – for if economic dynamics are politically contingent they are intrinsically uncertain and indeterminate. As this suggests, uncertainly is, in a sense, the founding premise of any genuinely political economy. For to acknowledge that economic dynamics are necessarily and profoundly political is to acknowledge that there are no politically unmediated logics of economic compulsion – that economics is not a source of logics (as distinct from rhetorics) of no alternative. ‘There is no alternative’ is never the description of an economic reality – it is a (typically mendacious) strategy of political legitimation.

But why is this important and why it is important today? The answer, in brief, is the nature of modern economic theory. For modern economic theory is formal theory, constructed from a series of abstract premises about the rationality, self-interest and narcissism of homo economicus – economic ‘man’ [sic]. It paints a picture of the world and builds models of it on the basis of such assumptions. These assumptions are not chosen for their accuracy or their credibility but precisely because they make possible the kind of abstract formal algebraic model building which is modern economic theory's raison d'etre. Modern economics is about making economic systems amenable to this kind of modelling – and that entails a commitment to analytical assumptions which are, at best, crassly distorting simplifications and at worst demonstrably false. Indeed, it is precisely this that makes mainstream economics so attractive to policy-makers. It both claims to be and ‘looks’ very scientific. It is neat and reproducible and its models lead typically to clear policy inferences. It does what policy-makers want and it has the added attraction of doing so in a way that is largely immune to critique from those not fluent in the private language in which it is conducted. In short, it depoliticises and technicises economics – and that is precisely what makes it attractive to political elites (see also Streeck 2014).

But this comes at a massive price – as we are now all too well aware. For, crucially, the assumptions that make mainstream economics so attractive to political elites are equilibrium assumptions. Modern economics, in other words, offers us a spurious science of equilibrium – a science of certainty in an age of uncertainty. Its models informed the thinking and the conduct of those who inflated the bubble whose bursting precipitated the crisis. As such it is deeply and profoundly implicated in the crisis. This is their crisis. We cannot allow the economics of certainty to govern again the world of uncertainty in which we live. Acknowledging uncertainty in a moment of great uncertainty should be the starting point for all economic thought; that, we contend, entails a political economy, the kind of political economy that this journal has always published and which this Special Issue exemplifies so well.

Notes on contributors

Jeremy Green is a Lecturer in Politics at the University of Bristol and an Honorary Research Fellow at the Sheffield Political Economy Research Institute.

Colin Hay is Professor of Political Sciences in the Centre of European Studies at Sciences-Po and Affiliate Professor of Political Analysis at the University of Sheffield, where he is also a founding co-director of the Sheffield Political Economy Research Institute.