What is Neo-liberalism? Part I

The title of this essay implies some definite answer – and thus more than can be delivered. Whatever neo-liberalism is, the economic, social, political, and ideological factors that constitute it are too complex to be adequately accounted for in one relatively short piece. This by itself would be a banal truism, were it not for the frequency with which the term is bandied about in contemporary political discourse – usually as one of denigration. Given the extent to which economics is now supposed to be governed by ‘neo-liberal’ ideas, and our political situation characterized by ‘the fact of neo-liberalism’, it is quite reasonable to want to know what this amounts to. Yet the label neo-liberal covers a bewildering range of ideas and happenings, usually coupled with yet more terms of putative clarity, which are in fact sources of confusion: ‘Anglo-Saxon model’, ‘monetarism’, ‘Reaganism’, ‘Thatcherism’, ‘globalization’, and so forth. Stipulating that we get clear on what neo-liberalism is threatens to plunge even honest and informed conversation into a miasma of confusion.

Nonetheless, what I want to do here is to try and better see what neoliberalism is by considering some of the things that it is not. This approach has very obvious limitations. But it is, I think, illuminating. In any case, the central contention I wish to make is that whatever neo-liberalism is, it is not the shift towards a world in which political actors give greater reign to free markets as compared to the recent past. This will likely come as a surprise. Most people, if asked to try and specify what neo-liberalism is, would likely put ‘more free market economics’ high up a list of factors. And this is quite understandable, given the rhetoric and policy-presentation that has come to dominate political discourse, in America and the UK especially, since the 1980s. Nonetheless, it is deeply misleading. What has changed is the way that politics interferes with economic exchanges under ‘neo-liberalism’, not the fact of interference itself.


Some recent work on the 2007-8 financial crisis and its aftermath is particularly illuminating in these regards. The crisis that brought the world economy to its knees – and continues to blight the living standards of millions, with no obvious hope of short- or medium-term improvement for the majority – had complex origins. But it was undoubtedly a financial crisis, and one that demonstrated how fragile the world of modern international finance is, and just how susceptible to its destabilising effects the ‘real’ economy is in turn. To some, this has been proof positive of the fundamental instability of neo-liberalism, where that is understood as a set of ongoing policies allowing ever more unregulated, i.e. free-market, transactions in financial services, which eventually imploded when the market failed.

The problem with this view – that free-market economics, in particular financial de-regulation, caused the financial crisis – is that it is too simplistic to be adequate. This is brought out clearly in Helen Thompson’s China and the Mortgaging of America: Economic Interdependence and Domestic Politics (2010). Thompson demonstrates the enormous importance of imbalances in the global economy, in particular between China and America, and the crucial role that American domestic politics played in creating the ‘sub-prime’ mortgage market that underpinned the fragility of the financial system by 2007. That story is roughly as follows.

Series ‘Belgravia’
Courtesy of Karen Knorr, Galerie Les Filles du Calvaire


Following the Asian financial crisis of 1997-8, South East Asian countries, and in particular China, decided to protect their economies from external shocks by holding large reserves of foreign currency, and adopting aggressively export-led economic policies. In practice this meant holding large volumes of US dollar assets in reserve and exporting cheap goods to rich western countries. These economies thus ran current account surpluses (they sold more than they bought, and were economically in credit). From the early 2000s, however, the Bush administration in America, through a combination of tax cuts on the one hand, and enormous expenditure on the Afghan and then Iraq wars on the other, turned the modest US current account surplus inherited from the Clinton years into an enormous deficit: America was spending more than it earned. This was financed in large measure by borrowing from South East Asian economies, especially China, where US government-backed loans were seen as incredibly safe due to the negligible risk of default. In essence, cheap Chinese credit funded huge levels of US borrowing.

A particularly important facet of this relationship was the role of two nominally independent, but in reality state-backed, American mortgage-lending companies: Fannie Mae and Freddie Mac. The primary purpose of these organizations was to assist homeowners in America to acquire mortgages (Fannie Mae was established during the Great Depression as part of the ‘New Deal’ to aid economic recovery; Freddie Mac in the 1970s to increase the pool of money made available in the US mortgage market, thus expanding availability). Prior to 2007, the official line was that these were independent companies who lived and died by the law of the market: economic competition. In reality, everybody knew that they were ultimately state-backed, and investors (correctly) believed that the US government would never allow them to fail. As a result, lending to Fannie and Freddie was seen as equivalent to lending to the US government, i.e. super-safe with guaranteed future returns. And lend they did, on an enormous scale: from 2000-7 Fannie and Freddie’s liabilities jumped from $2482.2bn to $5772.7bn, with the percentage of this held by foreigners growing from 7.3% to 21.4%.

But Fannie and Freddie were never politically neutral entities when it came to the domestic US mortgage market. On the contrary, successive administrations saw the two companies as central to increasing US home-ownership (a goal shared by Republicans and Democrats), and in particular used them to promote the availability of ownership to minority groups (a cause particularly championed by Democratic administrations). The two organizations were central to ongoing domestic political agendas. Furthermore, this was coupled with a wider trend in the US economy: allowing and encouraging cheap credit to be made available to consumers, in order to prop-up economic demand at a time when real wages were stagnating or falling, and export industries were in decline. That is, using cheap credit to generate economic growth, and hence keeping unemployment at bay, which otherwise could not be achieved.

Fannie and Freddie came into their own through their ability to borrow extremely cheaply on international markets, because investors saw a loan to them as effectively a loan to the US government. This was coupled with political direction from successive US administrations, which encouraged Fannie and Freddie to offer mortgages to households whom ordinary, private mortgage lenders would have deemed too risky to qualify. Those households made up the so-called ‘sub-prime’ mortgage market, which boomed from the 1990s into the mid-2000s. But as is now well known, that market proved to be a disaster. It was in particular sub-prime mortgage debts that financial trading companies were repackaging as part of ‘safe’ loans to be made to other institutions, but which turned out to be worthless, and indeed toxic, when the ‘credit crunch’ of 2007 put an end to the long party of cheap credit – and nearly brought down the world’s richest economies as a result. As Thompson puts it:

The sub-prime mortgage boom that lay at the centre of the crisis was as much the product of the drive by successive American Presidents and the Congress to expand home ownership as it was new financial derivatives devised on Wall Street. American politicians wanted more home ownership and by definition that meant that they wanted banks and other financial corporations to lend to people who previously had not been given mortgages.


Debs' Delights-2
Series ‘Belgravia’
Courtesy of Karen Knorr, Galerie Les Filles du Calvaire


Because many of these people were African-American and Hispanic, the lending was politically protected (sometimes aggressively: critics of Fannie and Freddie were often accused of racist motivations). The point Thompson urges us to draw is that the financial crisis cannot in any accurate way be seen as just a failure of markets, and a consequence of financial deregulation (though it certainly was that too). Successive US administrations systematically manipulated the US mortgage market, for political purposes. As Thompson makes clear, they thereby engineered outcomes the market itself would never have brought about, and which helped generate the calamitous consequences with which we are still dealing.

This leads to an important wider conclusion. If any country represents the apex of ‘neo-liberalism’, it must surely be America in the 1990s- mid-2000s.  Yet when it came to the providing of loans for the purchase of property – a central function of modern capitalism – the US government did not allow a free-market: indeed, quite the opposite.

Another salient recent example, albeit of a different sort, is that quintessentially twenty-first century industry, which in its own self-presentation would have outsiders believe that it is a paragon of successful free-market innovation and resultant explosive growth in the absence of government: the tech sector as centred especially in Silicon Valley. Regardless of the libertarian propaganda espoused by its leading billionaire figures, Silicon Valley could never have achieved what it has without the vast spending and infrastructure investment first delivered by the U.S. government with U.S. tax dollars, as a direct function of military research in particular. Indeed, no honest assessment of America’s political-economic functioning can get by without emphasizing just how central to much of its recent history the promotion of defence and its consequences have been. Yet not only is defence left to anything but the free market for its supply, America’s awesome military capacity (and apparently endless desire to sustain it) has inevitable knock-on effects upon its wider economic functioning. The libertarian dream that the state can be a ‘night-watchman’, providing only defence whilst withdrawing from all private interactions, is simply facile: when there is defence, there is state spending, and that spending distorts markets and has multiple knock-on effects. When that spending is enormous, as in the case of America, so are the distortions, whether they be on balance good or ill.

The clear implication is that what governments do under ‘neo-liberalism’ is not simply to withdraw and allow markets to operate unfettered, but rather to interfere with them in different kinds of ways. This prompts the obvious yet important question: ‘different from what?’ – and we shall return to that below. But first, it is worth our considering another thing that neo-liberalism is not: the Eurozone.


Martin Wolf’s The Shifts and the Shocks: What We’ve Learned – And Have Yet to Learn – From the Financial Crisis (2014) is a devastating critique of both the orthodoxy that allowed the 2007-8 financial crisis to occur, and what Wolf sees as the inadequate policy response in the aftermath. Wolf views present governments as still in thrall to the political ideologies and orthodox economic views that have been discredited by the financial crisis. They have failed to understand that modern financial systems necessarily cause massive ‘shocks’ to the economic system if they are not tightly regulated and constantly over-seen. And policy-makers have also failed to grasp that the global economy has ‘shifted’ in fundamental ways as a consequence of the liberalisation of modern macroeconomic policies, rapid technological transformation, and ageing populations, especially. His dour warning is that if this is not recognised and dealt with soon, a second – possibly much worse – financial crisis, followed by severe economic downturn, is only a matter of time.

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Series ‘Belgravia’
Courtesy of Karen Knorr, Galerie Les Filles du Calvaire


Wolf reserves particular ire, however, for the ongoing political project that is the single European currency, which he describes as ‘a disaster. No other word will do’.  With regards to the hope of trying to find out better what neo-liberalism might be by being clearer on what it is not, Wolf’s analysis of the European crisis is interesting because few would describe the Eurozone as a prime example of neo-liberalism. It therefore offers a potential counterpoint for intellectual comparison. Indeed, when the 2007-8 financial crisis broke, many in Europe initially dismissed it as a problem of  ‘Anglo-Saxon’ economics, and assumed that the alternative European model would be left relatively unscathed. This, of course, turned out to be fantasy. European banks were as exposed to the collapse in the financial system as their ‘Anglo-Saxon’ partners and competitors, whilst the Euro was revealed as a piece of grand folly which has severely exacerbated Europe’s subsequent economic downturn.

There is a notable irony here. The European Union – or rather, the European Economic Community as it was originally, revealingly, titled – was traditionally viewed by many of those on the left (who now typically bemoan the rise of ‘neo-liberalism’) as a leading threat from the political and economic right. The original aims of European integration were quite openly to encourage cross-border economic co-operation by creating free (or at least more free) markets in goods and services, eventually also allowing people to move freely, for expressly economic purposes. The old left was suspicious of the EEC, seeing it as a capitalist project – hence why many Labour MPs and trades unionists voted against Britain’s membership in the 1975 UK referendum. The fact that opposition to the EU in Britain today is largely the preserve of the hard right, with pro-European attitudes predominating on the left-of-centre, is a relatively recent reversal of political positions.

This reversal can in large measure be traced to the Maastricht Treaty of 1992, when the emphasis on economic integration moved decisively in the direction of political rather than primarily economic aspirations: the goal of an ‘ever closer union’, one apparently amounting to a federal European state in the ambitions of leading integrationists. In particular, Maastricht set in place provisions for what culminated in European Monetary Union, the Euro, in 1999. The motivations behind the single currency were undoubtedly political, not economic: the idea was to promote the stated goal of ‘ever closer union’ by binding the countries who shared a single currency closer together. The idea seems essentially to have been that if EU countries shared a currency, then they would be encouraged to work more closely together because they would share the same interests, and thus find political and economic harmony. That this now sounds unbelievably naïve and utopian – to the point that one finds it hard to believe that there really wasn’t once anything more to this project than the hubristic politics of wishful thinking – is sadly only a confirmation that the entire project was always as ill-advised as it now clearly appears. As Wolf grimly relates, the economic consequences have been disastrous across the continent but particularly in the southern economies of Spain, Portugal, Italy, and Greece – and the political ones might in time be yet more so.

The fundamental problem with the Euro is that it is monetary union without fiscal union. Member countries share a currency, interest rates, and exchange rates, but remain separated when it comes to national tax and spending policies. This means that the European Central Bank (ECB) has relatively limited resources when it comes to stimulating the European economy: it can control the money supply and change interest rates, but does this independently of all the different member countries’ abilities to tax and spend. This makes economic management extremely difficult, and also ensures that policies set by the ECB are likely to be out-of-sync with those desired by at least some member states, who are pursuing their own sectional position, and which may diverge from what the ECB thinks best. Worse, because Germany is the dominant country in terms of economic strength and political influence, the ECB has a tendency to adopt policies that favour Germany, at the expense of other countries.

This is exacerbated by the fact that in certain regards Germany is to much of Europe what China is to America: the surplus economy from whom the debtors have borrowed. Wolf is scornful of the self-congratulatory moralism that has accompanied this fact since 2008. If the Germans were willing to lend to Italy, Greece, Portugal, and so on, then they are just as much at fault for entering into unsustainable economic transactions as those countries. Yes, it has turned out that many of these debtor countries had weak underlying economies, and, following the financial crisis, are in a parlous fiscal condition. But Germany profited from that for many years, and should have known the risks associated with whom it was lending to, before the wheels fell off. Haughty moralism about the virtue of saving and the vice of borrowing is simple hypocrisy if you’re the one lending to a client you ought to know will likely struggle to repay when the good times end. Unfortunately such hypocrisy plays well in politics, and German voters are deeply unwilling to take any economic hit in the name of improving the situation for their economic partners. Politics dominates the Eurozone, and in practice that means domestic German politics rules the European agenda. This only exacerbates the inadequacy of a monetary union without fiscal union.

The situation is especially bad however because the fact of the Euro prevents the natural adjustment that would otherwise have occurred between member states experiencing different economic situations. Prior to monetary union, Germany’s strong economic position would eventually have caused the value of its currency to rise – making exports more expensive, but imports cheaper. By contrast the position of (for example) Italy would be the reverse: its currency would depreciate in value, making it more competitive internationally when trying to sell its goods and services. Italy could see an export-led recovery, whilst Germany would enjoy cheap foreign imports, until a healthier balance was restored, allowing Italy to grow its way out of recession. With the Euro in place, what happens instead is that Germany’s position is not weakened by an appreciation of the currency (or rather, if the currency appreciates, it does so also for struggling states like Italy, Greece etc.,) and so the systemic imbalances are not self-correcting. This is the situation at present: within the Eurozone there are massive disparities between the economic situations of Germany versus the weaker states, whose public finances were especially devastated by the 2008 crisis, and who are now trapped by the Euro and effectively doomed to economic stagnation due to their lack of international competitiveness. German politicians have no serious incentive to make Germany internationally less competitive (this would hurt their own economy, and thus the welfare of their own people), simply for the benefit of those nations branded as profligate and undeserving.

I believe a Woman should-2
Series ‘Belgravia’
Courtesy of Karen Knorr, Galerie Les Filles du Calvaire


But as Wolf explains at length, there is no realistic prospect of the Euro being brought to an end. Any country seeking to exit would immediately see massive runs on its capital reserves, as investors would predict (correctly) that an independent successor currency would be worth dramatically less than the surviving Euro. Mass capital flight would ensue, likely crippling an exiting country’s economy, with dire consequences likely to follow as the politics of fear and desperation take hold. Less dramatically, a coordinated abandonment of the Euro by all member states would still cause similar problems, as investors realised that the Euros they held in any one country were to be divided into the successor currencies of nation states. In any case, none of this can be openly discussed as a policy option, as member states must profess absolute and unconditional confidence in the Euro, because any hint that the currency could be allowed to fail would likely trigger a collapse in financial confidence that might actually cause it to fail. In Wolf’s terms, the Euro is a very bad marriage, but one with no realistic possibility of divorce. The great challenge of the next decade is of trying to find a way to make it work better than it is on course to do at present, and before the political dissatisfaction of individual nations catches up with the economic inadequacies of a naïve dream that became a living nightmare.

Looking to Europe for an alternative to neo-liberalism is thus in fact only minimally illuminating. Although the Eurozone hardly represents what most would now think of as neo-liberal economics, it is difficult to say what it does represent – apart from a gigantic mess born of entirely avoidable political wishful thinking. We can get only a little comparative purchase here: whereas before 2008 it might have seemed plausible to try and discover what neo-liberalism is by contrasting it to some kind of close real-world rival, that is no longer feasible in the case of the Eurozone. But what is clear is that Europe has been no more free from political interference than the so-called ‘Anglo-Saxon’ approach, and likely considerably less so. This in itself is perhaps hardly surprising. But what should be noted by critics of neo-liberalism (whatever that turns out to be) is that good political intentions are no guarantee of avoiding the ravages of bad economic outcomes. As Wolf demonstrates, whilst the political and economic challenges facing Britain and America over the coming decades are extremely serious, it is the Eurozone which faces the biggest dangers of all. In any case, the complexities of modern political economy can only be understood as a result of the combination of markets plus politics, not under any binary of markets or politics.

Paul Sagar is a JRF (postdoctoral fellow) at King's College, Cambridge, focusing on the history of political thought and contemporary political theory.