Twenty-one years ago the Soviet Union collapsed, marking the end of an era. After forty-five years of the Cold War, liberal democracy had emerged triumphant. Developing nations across the world looked to the United States and Western Europe for models of success. Francis Fukuyama wrote a book titled The End of History, in which he argued that Western-style liberal democracy represented the end point of political evolution; Michael Novak republished The Spirit of Democratic Capitalism, in which he defended the superiority of free markets to planned economies.
Today, however, the West is in crisis. In the United States, the securitization of mortgages within a highly opaque and poorly regulated financial sector led in 2007 to a massive market failure and the greatest economic crisis since the Great Depression. In Europe, structural defects with the common currency coupled to high levels of sovereign debt have pushed some nations into deep recession, threatening Europe’s political integration and stability. When developing countries search for models of success, rather than look to the West, they often look to China, with its undemocratic, state-sponsored capitalism. The ability of free markets to outperform all competitors can no longer be taken for granted; the superiority of democratic capitalism is no longer self-evident. What went wrong?
The answer to that question is multifaceted, but underlying every facet of the answer may be a truth first discerned by Solomon, “Pride goeth before destruction, and a haughty spirit before a fall.” The United States has been the world’s unchallenged economic and military superpower for twenty years, and unrivaled supremacy makes for complacency. “See, see but do not perceive,” writes the prophet; “make the heart of this people fat.” A fat-hearted people, concerned with comfort and privilege, refuses to notice signs of impending crisis until after it comes. In America, the failures of our domestic politics are only now becoming apparent.
We now know, for example, that the financial sector was not functioning anywhere near as well as the free marketers told us. In her recent book Bull by the Horns (Free Press, 2012), Former FDIC chair Sheila Bair describes the way “deregulatory dogma” deluded Washington elites, both Republican and Democrat, into believing that markets and institutions could regulate themselves. As she explains:
The groupthink was that technological innovation, coupled with the Fed’s seeming mastery of maintaining an easy monetary policy without inflation, meant an end to the economic cycles of good times and bad that had characterized our financial system in the past. The golden age of banking was here and would last forever. We didn’t need regulation anymore. (Bair 17)
Momentous financial crises, like those we experienced in 2007 and 2008, just weren’t supposed to happen anymore. Called to testify before Congress in 2008, former Federal Reserve Chairman Alan Greenspan, whose commitment to the idea of the self-correcting free market was frequently described as ideological, could only express his “shocked disbelief” that financial institutions had failed to monitor themselves, and then reluctantly acknowledged a “flaw” in his system of thought.
However, to attribute the cause of our present discontents to the financial sector alone would be too easy; “Does a bird fall in a snare when there is no trap for it?” Over the course of the last two decades, Americans have fallen prey to a bowdlerized version of free-market philosophy, according to which markets produce prosperity automatically, and no one ever has to sacrifice or attend to the health of civil society. Perhaps nowhere is this self-deception more striking than in our tax code, riddled through and through with exemptions, deductions, credits, and loopholes. Although the inefficiency of the tax code is universally acknowledged, its inequity is sometimes overlooked. Every tax exemption is a form of government subsidy. The popular mortgage-interest deduction, for example, costs the federal government four times as much in lost revenue as the amount it spends directly on public housing for America’s poorest quintile (see The Economist, “America’s Tax System,” October 13, 2012). But because this subsidy is hidden in the tax code, its middle- and upper-class beneficiaries can extol the virtues of the free market without ever noticing their own hypocrisy. For a moment, such hypocritical self-deception was rudely exposed by Mitt Romney’s infamous reference to the 47 percent, not only—as was quickly pointed out in the press—because a large percentage of the 47 percent are Republicans, but also—as was not much noted—because the wealthy donors whom Romney addressed, deducting their mortgage interest and health insurance premiums from their taxes paid on investment income at a lower rate than wage earners, are themselves enormous beneficiaries of government largesse. What is this, if not “to falsify the balances with deceit”?
Self-serving appeals to a free-market philosophy preached but never practiced have also blinded Americans to the problem of growing income inequality. In the mid-twentieth century, economists used to argue that while inequality increases in the early stages of industrialization, it decreases as economies develop. Today, we know that this is not necessarily the case. Since 1980, the share of national income in the United States going to the top 1 percent has doubled from 10 percent to 20 percent; the share going to the richest .01 percent has jumped from 1 percent to 5 percent. Judged by a standard measure called the Gini coefficient, the level of inequality in the United States is starting to move uncomfortably close to that of a South American country like Brazil. Although economists used to believe that a growing economy benefits everyone, the evidence now suggests that those on the bottom and middle end of the income distribution are falling behind in absolute, not just relative terms. Wage income is stagnating (see The Economist, “World Economy, For Richer, for Poorer,” October 13, 2012). Whatever the moral issues, economists are telling us in increasing number that large disparities in wealth pose an economic problem. Joseph Stiglitz, former chief economist of the World Bank and winner of the Nobel Prize, argues in The Price of Inequality (W. W. Norton, 2012), that large inequalities render an economy inefficient and unstable. Summarizing his views, Stiglitz writes:
Inequality weakens aggregate demand, because those at the middle and bottom have to spend all or almost all of what that they get, while those at the top don’t. The concentration of wealth in recent decades led to bubbles and instability, as the Fed tried to offset the effects of weak demand arising from our inequality by low interest rates and lax regulation…. Mainstream economic institutions like the International Monetary Fund now recognize the connection between inequality and a weak economy. (New York Times, October 26, 2012)
Moreover, growing income inequality in America appears to be a symptom of diminishing equality of opportunity. Economists seeking to measure the extent to which the income of parents influences the income and educational attainment of children have developed something called the “inter-generational elasticity of income” coefficient. According to this measure, parental income explains half of the differences in children’s outcomes in the US, which is worse than in virtually every country in Europe, including much maligned socialist Sweden (see, The Economist, “Economic Opportunity,” October 13, 2012). Nor can one attribute inequality in America simply to the workings of the market. American inequality is exacerbated by a skewed but invisible welfare state, one that distributes wealth upward by means of a Byzantine tax code and redistributes wealth from the young to the old through a system of entitlements.
Severe inequality, if left uncorrected, can lead to political crises. To be sure, some inequality is unavoidable, but if too much of a nation’s wealth ends up in the hands of the few, a country becomes divided into factions with conflicting and irreconcilable interests. Such societies cannot discern a common good and may cease to cohere. Ancient Rome was wracked by civil wars caused by plebian resentment of aristocratic privileges, which gave rise to dictators and the end of the Republic. The twentieth century was tormented by left and right-wing totalitarianisms originating in reactions to social failures caused by earlier forms of capitalism. US history also knows its social upheavals and dangerous forms of populism.
These are truths we have forgotten, lulled into a sense of security by our self-congratulatory faith in the inevitability of history. History, however, records failure as well as success. It tells the tale of nations that declined and fell after failing to meet the challenges which confronted them. Only a stiff-necked people would believe its own history is destined to be different. Democracy doesn’t happen; it is built and tended to. Its success depends on effort and honesty and qualities of character which, surveying the political landscape, would appear in short supply. If the heart of the people is fat, no government of the people, by the people, and for the people can hope long to prosper. For democracy in America, a new birth of freedom may depend upon a change of heart.
This article was originally published in the Advent-Christmas 2012 issue of The Cresset (thecresset.org) and is reprinted with permission.
Copyright © 2012 Valparaiso University Press