As this year's financial woes spread beyond Wall Street to engulf much of the world's economy, the contours of debate over the crisis have also broadened. First narrowly defined around loans and bailouts, the debate has morphed into a wholesale reconsideration of the capitalist model and free-market economic orthodoxy. "Laissez-faire is finished," said French President Nicolas Sarkozy in a recent speech. "The all-powerful market that always knows best is finished."
Sarkozy's notion is grounded in the events of recent weeks. Developed economies that had espoused a hands-off economic approach have undertaken economic interventions of historic proportion. This interactive graphic from the Financial Times shows the global extent of this shift. The United States, most countries in western Europe, Japan, and South Korea have all funded private banks through recapitalizations. A handful of countries, including the United States, took the more radical step of buying assets directly from private firms. A much broader swath of countries have engaged in other forms of intervention that range from guaranteeing bank deposits to cracking down on short-selling to attempting to boost private lending markets.
The icons of flourishing U.S. capitalism--enormous investment banks that thrived off deregulated markets and significant leverage--found themselves unable to manage those privileges and forced to transform into bank holding companies (NYT). Meanwhile, both the United States and Britain nationalized mortgage lending firms, a move many economists and government officials had long resisted as overly interventionist, but which many came around to see as necessary. Faltering U.S. markets have also hampered American efforts to emphasize deregulation abroad. The Washington Post reports the current crisis has severely undermined Washington's credibility as a proponent of global capitalism.
The spectacle of a crisis of confidence in capitalism, largely unthinkable just a few years ago, has prompted a rethink of some of the most established aspects of modern economic theory. It has renewed the prominence of John Maynard Keynes, a Depression-era British economist who argued that free markets would not "self-correct" and that government involvement would always be needed to guarantee that market gains translated to improved living standards across society. Keynes wasn't an anti-capitalist--rather, he hoped government intervention would buttress the capitalist system against excesses and thereby preserve the positive aspects of the system. Keynesian theory stands in contrast to that of Friedrich Hayek, whose argument for a more hands-off approach to free markets won significant support in recent decades. An analysis from the FT says Keynes' renewed influence is now visible "everywhere": in Sen. Barack Obama's economic plans, for example, but also in recent comments from President Bush that U.S. bank takeovers were "not intended to take over the free market, but to preserve it."
The policy implications of this ideological shift remain unclear, but could go on display in mid-November when world leaders will meet (NPR) to discuss the future of international market regulation. Some analysts say the summit, convened jointly by Bush and Sarkozy, could produce a framework for managing the future order of financial and commercial relations akin to the 1944 Bretton Woods Agreements, which many economists now criticize as obsolete.
Many economists are also ringing a note of caution about systemic changes. In a new editorial, the Economist "hopes profoundly" that a move toward regulation takes into consideration the beneficial aspects of capitalism and the fact that no other system has proven better at creating wealth and preventing poverty--points made by Keynes himself. Regulators should work to manage the system better, the piece says, but not to scuttle it altogether. Doing this won't be easy. Martin Wolf, the FT's chief economics commentator, says in an interview with CFR.org that the effort to preserve liberalized capital markets faces a major intellectual challenge, given the severity of the crisis. "We're going to have to do a very credible job of explaining that we're going to do better in the future, managing the global adjustment on macroeconomics," Wolf says. "It's going to be very hard."