The finance curse as a new grand narrative?

As both populist discourse and conceptual apparatus, it is capable of constructing a novel, inclusive coalition in support of the technical reforms we need

Andrew BakerIn a previous SPERI blog post, I lamented the complete absence of a co-ordinating discourse or grand political narrative about the financial crash of 2008.  Instead, we have seen isolated and disjointed technical changes in policy thinking in relation to: global imbalances, tax and macroprudential regulation (MPR).  In this contribution I address a question raised in that previous piece: what kind of common framework of thought, explanation and narrative could effectively link these seemingly disparate areas of change?

The most plausible contender for such a new grand narrative is the concept of a ‘finance curse’.

The idea of a finance curse has been floated by members of the Tax Justice Network.  It is the subject of a substantial publication by Nicholas Shaxson and John Christensen.  The concept is actually quite simple.  It builds from the notion of a resource curse, which is found in the literature of development studies and argues that countries heavily dependent on mineral exports suffer from a range of negative outcomes, primarily because alternative sectors such as manufacturing or agriculture are ‘crowded out’ by the dominant sector.

The argument advanced by Shaxson and Christensen is that ‘finance curse countries’ (those with an oversized financial sector) display many of the same symptoms of countries suffering from a resource curse. These include:

  • so-called ‘Dutch disease’, where financial sector growth raises local prices, particularly the exchange rate, making it harder for alternative tradeable sectors to compete in world markets;
  • Brain drain, where higher salaries in finance suck the most skilled and educated people away from other sectors;
  • ‘financialisation’, where financial activities take precedence and start to damage genuine productive activities, generating their own endogenous growth including money creation and rent extraction;
  • uneven geographical and spatial development, where major global financial services centres concentrate resources, activities, investment and people in a vast urban hub at the expense of underdevelopment and neglect elsewhere;
  • rising inequality and social stratification as a small metropolitan elite accumulates vast resources, inflating asset and property bubbles, producing financial instability and making asset ownership difficult for large sections of the population; and
  • political capture, where the financial sector becomes disproportionately influential in politics as state resources, policies and institutions are directed towards financial protection and promotion, weakening alternative sectors and creating disincentives for government officials to take corrective action due to easy rents.

To be crystal clear, the core thesis of the finance curse is not that finance per se is bad, but rather that, above a certain level, financial sector growth can be harmful.  In this sense, it requires us to focus attention on the question of what size, scope and type of financial activities would be socially optimal and desirable.

It should be noted that the finance curse also relates to the question of global imbalances, because countries with high levels of financial innovation and skilled financial centres can attract financial inflows that produce domestic financial bubbles.  Such inflows act as a substitute for poor performance and low wages in other areas of the economy.  The resulting economies are therefore prone to sharp reversals, as well as bubbles, which create contagious and paralysing debt pollution and complex negative feedback upon the performance of the wider global economy.

Unsurprisingly, as tax activists, Shaxson and Christensen came to the finance curse concept by thinking about the effects of financial centres specialising in tax avoidance products. Initially, they had in mind the way that small offshore financial centres erode the tax base and social welfare function of sovereign states.  But, as their writing indicates, the concept is just as applicable – if not more so – to advanced countries displaying high levels of ‘financialisation’.  Indeed, it may be most relevant of all in a medium-sized economy like the UK, possessed of the largest financial centre and biggest tax haven in the world in the City of London.  Recent efforts by the G8, G20 and OECD to tackle the epidemic scale of corporate tax avoidance can therefore be conceived as partial, implicit and incomplete attempts to address one of the symptoms of the finance curse.

For its part, the rise to prominence of macroprudential regulation after the crash of 2008 represents the best endeavour yet to curb the build-up of financial and credit cycles.  In this sense MPR is a sticking plaster solution to the finance curse, something that is system-repairing rather than system-transforming.  But in some guises the macroprudential lens also wrestles with how the structure and size of the financial system generates instability.  The Bank of England’s chief economist, Andy Haldane, refers to the vacuum cleaner effect of finance, sucking resources away from long-term growth enhancing R&D and infrastructure projects.  In his visit to SPERI earlier this year, Haldane stated that the purpose of macroprudential regulation was to ‘make finance the servant rather than the master’.  Bank for International Settlements research has indicated that banks can start to act as a drag on growth when their balance sheets go above 100% of GDP.  Much macroprudential diagnosis does therefore implicitly acknowledge finance curse symptoms and their macroeconomic impacts as the problems to be tackled.

However, the real potency of the finance curse concept lies not in its analytical purchase, but rather in its capacity to provide grand political narrative.  It is essentially a big picture discourse that can become the connecting explanatory glue tying together the otherwise isolated technical policy learning we have witnessed since the crash.  Why?  Because it tells us in straightforward non-technical terms what the key problem is – that finance has simply become too big, fuelling inequality, eroding social cohesion, undermining economic performance, concentrating political power and constraining democracy.

What’s more, the finance curse has the advantage of being easy to understand and grasp, unlike the technical policy adjustments we have so far seen.  Indeed, it is arguably the political counterpart of these more technical policy discourses.   It is both a populist discourse and a conceptual apparatus – an unusually powerful combination capable of constructing a novel and inclusive coalition that could deploy detailed evidence and careful analysis with popular support.

It’s surely time for academics, journalists, policy-makers, politicians and members of civil society to start seriously exploring the narrative of the finance curse.