"Bad Money" by Kevin Phillips

By BARRY GEWEN
Published: April 21, 2008
At a time when the Cassandras of finance are looking like realists, there is no gloomier prophet than Kevin Phillips. The author of 13 previous books including at least one classic, “The Emerging Republican Majority,” Mr. Phillips sees a perfect economic storm coming. The final pages of his bleak new book, “Bad Money,” tell of an “unprecedented” number of Americans planning to leave the country or thinking about it. Readers of “Bad Money” may come away with a similar impulse to flee.
By Kevin Phillips
239 pp. Viking. $25.95.
Mr. Phillips begins with an overview of the current debt debacle. The 1980s were the start of “three profligate decades,” when the expansion of mortgage credit and the invention of financial instruments like collateralized debt obligations (C.D.O.’s) led to an orgy of leveraging and irresponsible speculation. The Federal Reserve kept the bubble afloat with easy money, while regulators and ratings agencies looked the other way.
By 2007 total indebtedness was three times the size of the gross domestic product, a ratio that surpassed the record set in the years of the Great Depression. From 2001 to 2007 alone, domestic financial debt grew to $14.5 trillion from $8.5 trillion, and home mortgage debt ballooned to almost $10 trillion from $4.9 trillion, an increase of 102 percent. A crisis in the mortgage market in August 2007 brought the party to an end. Since then we have been living in a twilight zone of what a security analyst quoted in the book calls “one of the slowest-moving train wrecks we’ve seen.”
The second component of the perfect storm is the upheaval in the oil industry. Domestic production peaked in 1971, and there are signs that production worldwide is also peaking. (Mr. Phillips cites experts who believe it already has.) And with the emergence of new economic powers like China and India, demand has risen dramatically and prices have been climbing steadily; by 2004 a rapidly growing China had become the second largest oil consumer, after the United States. Despite the bad news at the gas pump, however, America has actually been getting a cost break, because the major suppliers price their oil in dollars. But with the dollar falling, OPEC has been talking about moving into other currencies. Were that to happen, “the effects,” Mr. Phillips says tersely, “could be painful.”
Finally, Mr. Phillips turns to what he terms America’s “calcified” political system. We may need new regulations to deal with the debt mess, along with an energy policy to address the changing world of oil, but Washington, he says, has become dedicated to “the politics of evasion,” reluctant to pass dramatic reforms or to call for sacrifice from the public. Democrats and Republicans alike are so entrenched, so dependent on campaign money and special interests, that “the notion of a breath of fresh air has become almost a contradiction in terms.” Instead of a “vital center” in Washington, we now have a “venal center.” Mr. Phillips holds out little hope of improvement from a new president; he doubts that any administration could do much, even though “the crisis is no longer in the future, but upon us.”
Is such pessimism justified? Mr. Phillips says he is making no predictions, but that’s not quite true. Throughout his book he tends to lean on the darkest analyses, though others might be less grim. And as readers of his earlier books know, he has a penchant for seeing parallels between the current situation in the United States and the declines of 17th-century Spain, the 18th-century Dutch Republic and early-19th-century Britain.
But historical comparisons are always dangerous playthings (remember all those foreign-policy analogies to Munich?): you necessarily have to cherry-pick eras and evidence from history’s panorama. Perhaps there are similarities in the financial arrangements of monarchical Spain and democratic America, as Mr. Phillips says, but the differences between the two societies are far greater. It’s hard not to feel that Mr. Phillips’s argument has been shaped not only by his facts but also by his temperament.
Still, even if his pessimism doesn’t seem wholly warranted, a sense of foreboding surely is, which is why his warnings have to be taken seriously. Mr. Phillips writes that the inventors and marketers of the new financial instruments didn’t entirely understand them. An executive of Fidelity International says a panicky feeling has set in on Wall Street because no one knows where the risks really are. The finance minister of France observes that investments may have reached such a level of complexity that no one can assess them. And Charles R. Morris, in his own gloomy book, “The Trillion Dollar Meltdown,” reports that even Citigroup’s chief financial officer “did not know how to value his holdings.”
The screenwriter William Goldman once declared that in Hollywood “nobody knows anything.” When Wall Street begins to resemble the American Dream Factory, it’s a safe bet that something has gone terribly wrong.
Barry Gewen is an editor at The New York Times Book Review.