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The origins of financialisation



Since the early 1970s and following the removal of the US dollar from the Gold Standard, financialization or financial engineering took off as an alternative means of generating income for financial intermediaries such as banks. Rather than support investment in agriculture, industry, manufacturing and services sectors financial intermediaries began to package existing financial contracts, such as mortgages, into bundles whose premiums added up to a fixed income for the owner of the bundle. These bundles were called derivatives. The market for derivatives was essentially financial and the movement in derivative incomes and therefore their exchange prices required some yardstick to determine the risk associated with purchasing or holding them as assets.

Unfortunately there were proven cases o "rating agencies" falsely classifying high risk derivatives stacked full of mortgages being paid to people who would not be able to pay is interest rates rose. This was done to get ride of these derivatives rapidly before they failed to generate income. These were bought by many banks as assets so when the federal reserve raise interest rates at the end of 2007 a cascade of devaluation of bank assets occurred, coming to a head in 2008.

This behaviour of financial intermediaries was something that was to be expected if one takes into account what the American economist, Thorstein Veblen wrote in 1921, as follows:

"Half a century ago it was still possible to construe the average business manager in industry as an agent occupied with the superintendence of the mechanical processes involved in the production of goods and services. But in the later development the connection between the business manager and the mechanical processes, has on average, grown more remote; so much so, that his superintendence of the plant or of the processes is frequently visible only to the scientific imagination... His superintendence is a superintendence of the pecuniary affairs of the concern, rather than of the industrial plant; especially is this true in the higher development of the modern captain of industry."

Veblen considered this evolution to be associated with a change in motivation that brought to the fore financial manipulators, who sabotage and retard, rather than advance technological development. He considered success in the business world to wait on guile:

"The successful man under this state of things succeeds because he is by native gift or by training suited to this situation of petty intrigue and nugatory subtleties. To survive in the business sense of the word, he must prove himself a serviceable member of this guild of municipal diplomats who patiently wait on the chance of getting something for nothing; he can enter this guild of waiters on the still-born pecuniary gain, only though such apprenticeship as will prove his fitness. To be acceptable, he must be reliable, conciliatory, conservative, secretive, patient, and prehensile."