Chapter Twenty-Two
On October 1, 2008, ninety-year-old Mrs. Addie Polk, living in a white clapboard house in southwest Akron, Ohio, shot herself with a handgun when the sheriff arrived to serve a foreclosure writ on her. Although Mrs. Polk and her late husband had paid off their mortgage on the once-handsome building in the 1970s, a succession of brokers later persuaded the frail widow she could pay for health care by taking out loans on the increasingly dilapidated property. The last of these, for $45,620, was repayable in 2034 when she would be 116 years old. For the financial institution backing the mortgage, this was an asset with a leveraged worth of about $150,000. But after just three years Addie Polk found herself unable to keep up the payments and, despairing at the arrival of the sheriff at the door, tried to kill herself. Although the attempt failed, she died some time later in hospital.
Mrs. Polk was not alone in her desperation. By then, hundreds of thousands, and around the world millions, of home owners faced the same threat of losing the roof over their heads. But there was a particularly bitter irony about the fate of an elderly widow who, with her blue-collar husband, a worker on the Firestone tire factory production line, had put every spare dollar aside to buy their home. She had fallen victim, not just to mortgage sharks, but to an economic policy that was both unjust in its exploitation of the poor, and systemically unworkable.
The policy depended not merely on deregulation but the spread of what both Margaret Thatcher in the 1980s and President Bill Clinton in the 1990s called “a property-owning democracy.” In Britain, this was achieved through “right to buy” legislation passed in 1980, allowing public housing tenants to purchase their homes at a heavily discounted rate. During Mrs. Thatcher’s government, 1.5 million publicly owned houses were privatized in what she described as “one of the most important social revolutions of the century.” By the end of that century, the proportion in private ownership had risen from just over half to more than 70 percent of all homes in Britain.
The change was smaller in the United States, a 5 percent gain from 1990 to 2007 to just shy of 70 percent, but it too was politically driven and designed to effect social change. “You want to reinforce family values in America, encourage two-parent households, get people to stay home?” Bill Clinton demanded, when launching his National Homeownership strategy in 1995. “Make it easy for people to own their own homes and enjoy the rewards of family life and see their work rewarded . . . This is about the way we live as a people and what kind of society we’re going to have.”
When the bones of the 2008 crash came to be picked over, his political intervention would take on a baleful significance. Large mortgage lenders like Countrywide Financial were leaned on by the administration to take “proactive creative efforts” to make loans easier; Congress chastized officials at Fannie Mae (the Federal National Mortgage Association) who were responsible for insuring mortgages against default and thus acted as the first gatekeeper on the road to securitizing home loans, for not guaranteeing riskier borrowers; and Wall Street and Washington agreed that, with house prices rising five times as fast as incomes, the buoyant market would at last square the circle that had bedevilled private property economies since the sixteenth century—there need be no more losers, everyone with a property would win.
It vindicated the political beliefs of Ludwig von Mises, Ayn Rand, and others born into an imperial world, that there was no need to care for the poor: they would be lifted on the rising tide of prosperity created by the triumph of the entrepreneurs. But what it rested on was a worldwide Ponzi scheme.
The question of ownership lay at the heart of the boom and of the crash. Once the regulatory barriers were removed in the private property economies, the investment strategies adopted on Wall Street and in the City of London meshed directly with the economy of the industrial home. The growth of lending, from $500 million in 1990 to $2.6 trillion in 2007, drove property values up, powering the phenomenal expansion of the consumer economy and creating an apparently unquenchable appetite for automobiles, electronics, toys, clothes, and furniture.
To meet its demand, trade routes spread outwards to suppliers around the world, but especially in the Far East. In reciprocal fashion, American debt was sold everywhere from Oslo to Sydney, but the most significant buyers turned out to be the city and provincial as well as central governments in the coastal crescent from Shanghai to Beijing. The collapse of Communism in the Soviet Union in 1989, and the growing strength of China’s market economy, made it appear that one economic system now circled the world. Soaring on the wings of hubris, Thomas Friedman named his popular book on the globalized economy The World is Flat, while Francis Fukuyama updated Walt Rostow’s development strategy and, in a scholarly article that assumed universal capitalism must lead to universal democracy, predicted “The End of History.”
Absent from the writings of either author and from the published deliberations of the Federal Reserve and the Bank of England, of governments on either side of the Atlantic, of most of Wall Street and the City of London, and an array of international financial experts, was any suggestion that they understood that the phenomenon of globalization grew out of the disparity between two ways of owning the earth. While the apparent rise in the value of their properties enriched owners in the West, the lack of similar property rights in China drove as many as one hundred million peasants from the countryside to work in factories producing cheap consumer goods. They needed to earn the money for their retirement, but without property to invest in, their savings, amounting to two trillion dollars, had to be vested in the next safest location. This turned out to be U.S. treasury bonds.
The demand from Chinese and other foreign investors for American debt kept interest rates artificially low. Instead of being choked off by a rise in the cost of borrowing, mortgage lending remained buoyant, house values continued to climb, the consumer economy kept on expanding, and derivatives were still created, albeit with an ever-increasing proportion—it grew from 4 to 15 percent—of risky, or subprime, loans. In 2007, the accompanying exponential growth in derivative dealings, mortgage debt, foreign exchange, and insurance topped out at almost six hundred trillion dollars, and the sheer size of the financial colossus obscured the fact that most of it ultimately depended upon property. Only when the subprime mortgage market began to disintegrate in the summer of 2007 did the narrow basis of the boom become starkly apparent.
There were many penalties for failing to appreciate the pivotal role of the industrial home in the consumer economy—unemployment, tax rises, a decade of lost growth, a legacy of debt to later generations and, not least, the fate of Mrs. Polk and millions of property owners like her. But the damage that the Austrian experiment did to the democratic tradition that had grown up around private property dwarfed any harm it inflicted on the economy.
During the thirty-year experiment, a transformation had taken place in other societies as they became linked to the globalized economy. In that period, the number of politically free countries, according to the index of democracy compiled by Freedom House, rose from forty-three to eighty-seven, home to three billion inhabitants or 43 percent of the global population. For “development” commentators, such as Professor Francis Fukuyama, this was cause and effect, the result of “an extraordinarily strong correlation between high levels of industrial development and stable democracy.” But, as Fukuyama ought to have been aware, the 1992 paper he cited as evidence gave no more than the shakiest support for his belief that industrial development led to democracy.
Many of the countries offered as examples were from Eastern Europe and became democratic not because of industrialization but because they were liberated from the former Soviet Union by the end of the Cold War; others, such as Spain, Portugal, and Greece, were industrialized but then became dictatorships, and only later became democratic due to persistent pressure from western European neighbors; yet more, including South Korea, Taiwan, Uruguay, and Costa Rica, arrived at modernization through the prior redistribution of land as private property, while some at least of the remaining examples, such as Romania and Pakistan, were hardly shining examples of either industrialization or democracy. The author of the paper himself qualified the findings by saying that “economic development is not a prerequisite for democracy,” a reservation amply confirmed by subsequent academic studies. Since then, Fukuyama’s entire “development” thesis has been blown into oblivion by a series of Freedom House maps showing an entire swath of the globe from Moscow to Beijing and Hanoi occupied by some of the world’s most vibrant industrial economies operating within repressive, undemocratic regimes.
In fact, the really striking feature of the new democracies, both in Europe and Latin America, was their near-unanimous rejection of the Austrian-influenced private property model. In 1945, the common law democracies had served as a beacon to a war-torn world, demonstrating the freedom and equality that could be enjoyed by individuals in a stable private property society. Up to 1987, the influence of the United States Constitution so permeated aspirations to democracy that Time magazine claimed an analysis of 170 written constitutions showed all but ten to have borrowed “substantially” from the one drawn up in Philadelphia two centuries earlier. By 2012 that was no longer true.
In his State of the Union address in 1941, Franklin D. Roosevelt, president of the largest, most privately propertied society in existence, put forward his vision of a future world “founded upon four essential freedoms.” They comprised two positive freedoms, of speech and of worship, and two negative, freedom from want and from fear. All four were incorporated into the preamble to the Declaration on Human Rights adopted by the United Nations in 1948 as a flat statement that “the highest aspiration of the common people” was for “the advent of a world in which human beings shall enjoy freedom of speech and belief and freedom from fear and want.”
To achieve that goal, a list of thirty human rights had been drawn up by an international committee chaired by Eleanor Roosevelt, the president’s widow. The first article stated that “All human beings are born free and equal in dignity and rights,” and the second that “Everyone is entitled to all the rights and freedoms set forth in this Declaration, without distinction of any kind, such as race, colour, sex, language, religion, political or other opinion, national or social origin, property, birth or other status.” The right to own property “alone or in association with others” came in at number 17, with no indication that it was the source of a set of older and conflicting rights.
Although not binding on members of the United Nations, human rights had one immediate advantage: they solved what seemed to be an ineradicable weakness of property rights. It was manifested in the failure of two important groups of people, women and people of color, in the United States and the Commonwealth, as the British Empire had become since 1944, who, despite being property owners themselves, could not win social and political equality with white male owners. The web of sexual, social, and cultural prejudice that stood in their way was virtually immovable because masculinity and a pale skin were what defined a property owner.
The problem was exemplified by the educational program for African Americans instituted at the Tuskegee Institute in 1888 by Booker T. Washington, based on his assumption that African Americans could gain equality by showing that they possessed “industry, thrift, intelligence and property.” But however wealthy the Tuskegee alumni became, the prejudice against their color remained, and those less privileged were subjected to oppression backed by the threat of murder and mutilation by a lynch mob. As one influential historian pointed out, Washington’s strategy was doomed to failure, because at the time “Free black people were ‘matter out of place.’ Their emancipation was subversive of southern white freedom.”
Washington’s ideological opponent, W. E. B. DuBois, put equal rights of voting and education at the center of his campaign, and in the 1940s, before the United States endorsed the Declaration of Human Rights, the brilliant attorney Thurgood Marshall used the Bill of Rights to achieve a limited success. But it was after 1948, through landmark legal cases and the 1964 Civil Rights Act in particular enforcing equal rights in voting, education, jobs, and the provision of public services, that individual rights were seen to be the way around the prejudices of property.
American women were also included in the protection offered by Title VII of the 1964 act banning any discrimination in employment based on an “individual’s race, color, religion, sex, or national origin,” and by the Equal Employment Opportunities Commission set up to enforce the ban. When the Women’s Movement gathered force in the 1960s, the statutory emphasis on individual rights provided the legal anvil against which its members hammered out cases of discrimination, both personal and professional.
In Britain, where racial discrimination sprang from 1950s immigration rather than nineteenth-century slavery, the resort to individual rights legislation and the creation of a Commission of Racial Equality in the 1970s came after the campaign for women’s equality in education and employment had begun. Politically, women’s rights traced their roots back to the suffragettes and the fight for votes in the early twentieth century, but socially it sprang into life with the invention of the contraceptive pill and the 1960s revolt against the remnants of the war’s male-directed values. But the inability to shift attitudes of British white, masculine ownership without recourse to laws enforcing equal rights was equally fundamental to the movement to liberate women from the prejudices of a private property society.
Among the forty-four new democracies that were born between 1987 and 2008, there was a clear tendency to guarantee human rights above property rights. In the majority of their legal systems, generally derived at least in part from the German civil code, these individual rights were set in a context that stressed the importance of communal and family needs.
During the same period, as Austrian ideas sidelined the Lockean emphasis of property’s reciprocal obligations, U.S. Supreme Court judgments, once frequently cited as pointers to desirable developments of law, were increasingly seen to be irrelevant outside North America. Even other private property societies, such as Canada, Australia, and New Zealand, shunned the narrowing focus of American legal developments, preferring instead to interpret private property law in the light of declarations of human rights. “Among the world’s democracies,” a recent study concludedin 2012, “constitutional similarity to the United States has clearly gone into free fall.”
Quite evidently two forms of democracy had taken root in the free world. In fact the social democracies of Scandinavia and northern Europe that Hayek once warned would become Socialist dictatorships repeatedly came out ahead of most common law democracies when measured by such criteria as freedom of expression, lack of corruption, social equality and mobility, and ease of doing business. On a visit to Egypt soon after the fall of President Mubarak, Justice Ruth Bader Ginsburg of the Supreme Court acknowledged how remote American democratic values had become. To an audience desperate to establish constitutional guarantees of their new-won liberty, she advised, “I would not look to the United States Constitution if I were drafting a constitution in the year 2012.”
One explanation is that the Constitution is old and inflexible, but it was just as inflexible and not very much younger in 1987 when it was still a democratic model. From a searching analysis of 729 constitutions adopted by 188 countries between 1946 and 2006, it is clear that sympathy for its values turned to antipathy during the 1980s and 1990s, the very years when the Austrian version of private property capitalism took over in the United States and Britain, and began to be exported around the world by globalization.
The more that supporters of the Austrian system insisted economic liberty was equivalent to personal freedom, the quicker they eroded the moral standing of the common law system with its guarantees of individual liberty based on a reciprocal responsibility of the propertied for the unpropertied. By the twenty-first century, it had become clear that in a private property society taken over by Austrian economics full and positive freedom had become a privilege confined, as in the Austro-Hungarian empire, to the financially favored few. To the rest of the world, the beacon of liberty had become a lighthouse warning of the greedy rocks beneath.
The loss of moral authority was evident enough in the rejection of the model of individual freedom evolved by private property societies. But even more damaging was their inability to offer any example to follow in the place where it was most urgently needed, the fastest growing propertied economy in the world.
In 2004, just about when Mrs. Polk’s last mortgage was being issued, Yang Wu, an excitable, stubborn restaurant owner living in Chongqing, central China’s megacity, began to build a redbrick house in the Hexing Road. It replaced the family’s dilapidated wooden dwelling, and according to its owner was as smart as any in Shanghai or Beijing. Three years later, a semiofficial development company, Chongqing Shengbo Real Estate, with plans for a shopping mall, slapped a compulsory purchase order on Yang’s house and demanded that he move out. The neighbors had all accepted compensation and left, but in March 2007 Yang refused to go, even when the company’s diggers laid siege by gouging out a thirty-foot deep trench around his house.
The image of his redbrick home perched precariously on a pillar of earth was flashed up on the Internet and across the world, drawing widespread sympathy. But Yang Wu’s demonstration had a specifically Chinese resonance.
Since fanshen’s abolition of landlord property in 1949, China’s land had belonged to the State Council, with its use divided between urban and rural occupants. In practice, control of urban land was exercised by planning bureaus under the local Communist Party, but in the countryside and the suburbs, decisions about how the earth would be used were made by the working brigades of thousands of agricultural collectives. This division was embodied in the hukou, an internal passport that defined each person as either “urban” or “rural” and restricted the holder to the area where she or he lived. Urban dwellers enjoyed privileges such as fixed rations and the right to move within the city, but peasants were expected to feed themselves as well as meeting food quotas, and they were confined to their particular collective in a manner not far from serf legislation.
Through all the upheavals of Mao’s rule, the essential shape of rural organization had remained intact until 1978, when Deng Xiaopeng launched the economic revolution, known as “reform and opening.” City dwellers like Yang then became eligible to buy thirty-year leases for their homes, while in the countryside individual households were allowed the right to use specific parcels of land for up to thirty years and sell the produce on the free market, so long as they first supplied the state with a fixed quota of rice or wheat at set prices. This contractual ownership, or chengbaoarrangement, had ancient roots. It harked back to the fourth century BC when the Confucian scholar Mencius taught that farmers should be allowed exclusive use of their fields so long as they fed the nonfarmers in the community.
Unmistakably in the twenty years after Deng’s reforms, Chinese farmers more than fulfilled the conditions of the chengbao system. Year on year, agriculture rivaled industry by increasing productivity by almost 8 percent annually. Not only were state quotas met, but farmers’ markets opened up in every town and village in the country to sell off the surplus they had grown of rice and wheat, bean curd and salted plums, carp, catfish, almonds, and chillies. Farmers earned more than ever before, and their success increased the value they attached to the fields and fishponds they worked.
Chengbao rights, however, also provided developers with their opportunity. The rights were always allocated by “the collective,” but despite its immense power as the embodiment of the state, the collective was never defined. Sometimes it was the village where the land lay, sometimes the collection of villages that administered the area, and sometimes the township or tax district. Since collectives were often represented by only a few village delegates and a party official, one collective might easily overrule another or in turn be overruled by a planning bureau backed by Communist cadres from a neighboring city.
With party backing, it was easy for speculators to hack free what land they wanted from chengbao possession. In less than three decades, the megacity of Zhenzhen had grown from a fishing village near Hong Kong to an urban empire of more than eight million inhabitants, and gobbled up close to two hundred square miles of homes, fields, and ponds. But Zhenzhen was only one of 160 cities with populations of more than one million that clawed into the countryside to provide housing and employment for their inhabitants. Their centers were usually planned, but much of the outer growth was uncontrolled. Typical was the random appropriation of a peasant commune to build a gas station outside the sprawling complex of Zidong in Sichuan Province, accomplished in a morning in 2007 with the help of several hundred militia to bulldoze houses and smash away protesting villagers.
The huge loss of agricultural land arbitrarily removed for industrial development—in 2000 a record fifteen million acres were taken, more than 5 percent of the total farmland in China—provoked increasingly fierce confrontations between farmers and developers. In 2005 alone, the country suffered an epidemic of riots and violence, with more than eighty-six thousand mass protests involving police and militia reported, not counting innumerable lesser confrontations. That same year, both China’s administrative government, headed by Premier Wen Jiaobao, and its parallel, the Communist party, under General Secretary Hu Jintao, began to consider the hitherto unthinkable possibility of creating more clear-cut property entitlement to land in order to restore harmony to the countryside.
Land was not like industry. To the surprise of Deng Xiaopeng’s hardline Maoist critics, the capitalist system of privately owned factories and shops that developed under the formula “Socialism with Chinese characteristics” did not undermine the control of the Communist party. Security and harmony, it turned out, were as important to business as to government. Indeed, since industrialists and retailers needed the approval of Communist cadres at local, regional or national levels for major decisions, such as the location of a plant or the involvement of foreign investors, the existence of private ownership actually extended the party’s influence, albeit with dramatically increased risk of corruption.
But where land was concerned, private ownership was a direct threat to party control. The very impetus behind the Communist revolution had been the use of private property rights by landlords to exploit vulnerable peasants. In 2005, when the question first began to be seriously considered, Professor Gong Xintian, a legal expert at the University of Beijing and an unrepentant Maoist, published an open letter to the People’s National Congress condemning any move in that direction. “Recognition of the socialist public ownership system forms a most distinguishing feature of a socialist constitution, as opposed to a capitalist one,” he asserted ponderously. “Therefore, ‘the sanctity of public property under socialism’ becomes one of the most defining characteristics of a socialist constitution . . . [It provides] the material basis for citizens’ equal rights and for the Communist Party’s own rule . . . If this basis is gone, what place remains for the Communist Party?”
Irritated by his article, the party hierarchy forbade Gong from publishing anything more on the subject. In 2007 the People’s National Congress rubber-stamped a new property law that had been hammered out behind closed doors. But the professor’s awkward point could not be so easily brushed aside—the sovereignty of the Communist Party, its moral authority, lay in its possession of the earth.
Only the most powerful interests could have persuaded China’s two governments to remove such a vital plank from the party’s claim to legitimacy. Peasant agitation might have put property rights on the agenda, but it counted for little within the People’s National Congress and the party’s Central Committee. There the strongest pressure for reform came from members of the State Organs committee and the Business Works committee—the representatives of China’s booming industrial sector—anxious to boost domestic demand through growth in the housing market. Allied with them were representatives of the provinces and of municipalities, such as the megacity of Zhenzhen, well-known for advocating greater clarity in property law to facilitate its own acquisition of land for development.
Not surprisingly, their fingerprints were evident in the way the new property law favored corporate interests rather than those of individuals. It was modeled on the Bürgerliches Gesetzbuch, itself a product of German business and bureaucracy.
Nevertheless, the 2007 law unmistakably expanded the rights of property owners. In earlier legislation, such rights had been mentioned only in relation to the state, the one real owner of the land. The very term for property, wu, was not legally applied to land until 2002. By contrast, the new law used both the word wu in reference to property of all kinds, and, for the first time, with the added character quan, meaning “rights.” Explicitly it declared that the wuquan of “private persons” should be protected as much as those of the state.
For city residents, the wording made it clear that they could buy, sell, and mortgage buildings almost as freely as in Hong Kong where British property regulations still applied. The consequences were immediate and direct. In 2009, the first full year of postrecession business, the value of the Chinese residential housing market grew by 80 percent to well over half a trillion dollars. Today the buying power of urban property owners has created a consumer economy that has almost doubled in value since 2005 to $2.1 trillion in 2012, the size of France’s total GDP, and will account for almost 50 percent of China’s GDP in 2015—in most private property economies it represents about three-quarters of GDP. In terms of economic policy, it commits China to following the Western model of using the value of the industrial home to mop up the overproduction of industrial capitalism.
Peasants were not given the same degree of freedom, but their chengbao agreements were no longer to be regarded as contracts that might be torn up for failure to meet their quota, but as something closer to leasehold property. Within limits, their holdings could be bought, sold to other farmers, and mortgaged. Even more significantly in the long-term, rural land was clearly stated to belong to “members of the collective,” that is to people, rather than to a mere abstract “collective.”
However, the 2007 law was not designed to meet the needs of either peasants or city dwellers. As events confirmed, its chief purpose was to make possible a more orderly transfer of land from land-rich collectives to urban developers, and to clarify the legality of corporate ownership. The land grab not only continued, but accelerated, leading to no fewer than 180,000 violent confrontations in 2011.
What drives the cities’ growth is the gigantic migration from the countryside that has tilted the population from rural to urban—officially about half of all Chinese, almost seven hundred million, lived in cities in 2012; unofficially there might have been as many as 920 million. To meet their needs, city and provincial governments account for four fifths of all China’s public expenditure, providing everything from housing and roads to electricity and water. They raise a substantial part of that money by selling to developers the land taken from peasants and pocketing the profit.
Like the Manchu government of the Qing Dynasty, the Communist Party needs to contain the divergent goals of regional and municipal governments on the one hand and on the other its own centralized control backed by its modern “bannermen,” the increasingly powerful People’s Liberation Army. This priority dictated the choice of Xi Jinping as General Secretary in succession to Hu Jintao. The son of one of the party’s founders, Xi earned his spurs supervising the government of Shanghai, the least Communist, most independent-minded megacity in China. In a 2009 cable from the U.S. embassy in Beijing published by Wikileaks, Xi was described as “repulsed by the all-encompassing commercialization of Chinese society, with its attendant nouveau riche, official corruption, loss of values, dignity, and self-respect.” His chief means of political management, other than by exercising the imperial power of the party, was through Beijing’s control of finance—despite the sums raised from the sale of land, city and provincial governments must rely on central government subsidies for almost a third of their revenue. Kept on a short financial rein, Shanghai caused Beijing less trouble than most other provincial governments.
That this was the preferred policy for controlling regional government became clear from the spectacular fall from grace of Xi’s chief rival, the more flamboyant Bo Xilai, who had been in charge of Chongqing. Adopting an overtly neo-Maoist policy, Bo had cracked down on behavior deemed to be excessively capitalist, but in a way that also boosted his personal standing. Corruption charges against Bo, and his wife’s convenient conviction for murder, allowed the party’s leadership to make known its disapproval of both parts of his strategy.
Nevertheless, in a potentially significant move in 2010, both Xi and Bo decided to place a small tax on mansions and second homes in their cities. A heavier tax on the property and rising wealth of the owners of urban land would solve the cities’ chronic funding problems and give them greater independence. It would also give individual owners a direct interest in how government was conducted. At present, neither they nor the Communist party dare risk such an outcome.
The goal for the Communist party under Xi Jinping’s leadership is therefore clear. It is to manage the cities so that they in turn can meet the aspirations of their property interests without granting any political rights.
The issue of property rights is not one that arouses much outside sympathy. Instead, visiting foreign leaders, including those of private property societies, repeatedly prefer to raise the question of China’s dire record on human rights, for the excellent reason that these embody the universal aspiration for social justice. Nevertheless, for most of the time the defense of property interests through representation and consent is of wider and more practical concern for most Chinese.
The model of the consumer economy that China has adopted will only accentuate its citizens’ need for political protection of their industrial homes. Denuded, however, of the tradition of individual and political rights founded on social justice that private property societies developed over centuries, no outside power has so far been able to give support to that basic drive that in the past always led on to democratic change.
The tectonic pressures at work in China operate with equal force in private property societies, but in almost mirror fashion. While China’s system can only function by denying the political power that should go with individual ownership, the democratic marketplace in the United States and Britain requires equality of access to as many owners as possible. The concentration of wealth in a tiny percentage of the population of both countries during the last thirty years has clearly distorted the balance in favor of a small number of exceptionally powerful factions. If the goal for China’s twin governments is to keep political power concentrated within the hands of the Communist Party, the task for a private property government is no less demanding—to redistribute it more widely.
In his obsessive calculations about what was needed to maintain equality in the political marketplace, James Madison sometimes seemed like a person pitching a tent in a gale, endlessly tweaking its supports, tightening the ropes here, slackening them there, lifting a flap on one side, hammering in a peg on the other. His goal was balance. To achieve it, the popular but potentially over-powerful commercial factions might have to be taxed heavily, while the unpopular faction that supported the cancerous institution of slavery might have to be protected. But without balance, the free competition for democratic power would be distorted.
In the late twentieth century, one faction did especially well in both the United States and Britain. In the United States, successive administrations brought down the 70 percent rate of personal tax for top earners in the 1970s to 35 percent in the 1990s, and capital gains tax from 40 percent to 15 percent; accompanied by changes in accountancy practices, the latter became especially beneficial to highly rewarded executives. The cuts left a gap that had to be filled by borrowing. Reagan increased the national debt by two hundred billion dollars, and George W. Bush by five trillion. As a result, the bond market that provided the loans became a more powerful influence on government policy than the electorate. But to service the interest and eventually pay back the principal, all taxpayers, including those unborn, inescapably became liable for a burden once shouldered immediately by the wealthiest.
Simultaneously, a policy of paying increased rewards to corporate executives saw the incomes of CEOs of Fortune 500 companies that had been forty-two times larger than that of the average worker in 1980 rise to become three hundred times greater in 2010. In Britain, salaries of FTSE 100 companies chief executives grew from 17 times average pay in 1980 to 220 times.
By 2007 there were 392,220 taxpayers in the United States with gross incomes of a million dollars or more, but the aggregate income, including capital gains, of the wealthiest four hundred Americans reached almost ninety-one billion dollars every year, meaning that on average each received an annual income of $227.4 million while paying tax at a rate of only 21.5 percent. Income eventually translates into capital wealth, and in 2007 the ultrarich four hundred owned as much wealth as the 150 million poorest Americans. Slightly below these peaks, the top 1 percent of Americans owned 34 percent of the nation’s wealth while the bottom 90 percent owned just 29 percent. Hayek’s goal of creating an aristocracy of wealth had been achieved.
Belatedly, even Alan Greenspan recognized that inequality on this scale “is not the type of thing which a democratic society—a capitalist democratic society—can really accept without addressing.” James Harrington, author of Oceana, would have understood Greenspan’s unease. Extremes of inequality in the distribution of property had to be accompanied by extremes of inequality in the distribution of power. And that would inevitably change the nature of government.
In the early twentieth century, the American commentator Vernon Parrington summarized in a sentence the dilemma that a century later gnawed at the heart of American politics: “We must have a political state strong enough to deal with corporate wealth,” he wrote to a friend, “but how are we going to keep the state with its augmenting power from being captured by the force we want to control?”
In Britain, a similar tax regime left the top 3 percent of British taxpayers owning almost 80 percent of the country’s personal wealth in 2008. That same year, a House of Commons committee was sufficiently alarmed to comment on the public’s assumption that “there is an inside track, largely drawn from the corporate world, who wield privileged access and disproportionate influence.” It singled out the influence wielded by “commercial corporations and organisations . . . which is related to the amount of money they are able to bring to bear on the political process.”
Prominent among them were the financial chieftains of the City of London whose insistence on lax regulation helped make the City the most dynamic center in the globalized financial economy and home to more than 720 international banks and other financial institutions. By 2008, it contributed a fifth of Britain’s GDP. In the wake of the crash, it also became clear that City practices had slithered beyond laxness to the borderline of corruption and malfeasance. Not only had three of Britain’s largest banks engaged in dealings that would have bankrupted them but for a taxpayers’ bailout—a fourth, Northern Rock, the smallest though hardly the most irresponsible, was allowed to go to the wall—but collectively London’s major banks had mis-sold financial services worth almost three billion dollars to their customers, had routinely lied about lending rates between themselves, and persistently and deliberately misled the city’s vestigial regulatory agencies about the way they conducted business. During this period their CEOs saw their salaries rise ten times over to ten million dollars a year, 230 times the average income of the taxpayers who were forced to save their bankrupt skins.
The reason why the traditional private property structure appealed to such a wide range of political reformers from eighteenth-century France to twentieth-century Japan was that it was seen to be fairer than the existing system. In the United States, fairness was generally taken to be a matter of equality of opportunity, while elsewhere it was measured more by equality of outcomes, but until the 1970s, private property societies could broadly claim to deliver on both counts. More individuals had the opportunity to succeed, and those societies also enjoyed greater wealth, better health and rising life expectancy than their competitors. All that had changed by 2008.
A slew of research by the Brookings Institution showed that social mobility had grown to be significantly higher in Scandinavia than in the United States and Britain. Meanwhile surveys by the Organization for Economic Co-operation and Development found that, measured by markers such as life expectancy and infant mortality, the health of Americans had dropped into the bottom half of the OECD’s membership of forty nations. In Britain, the existence of the National Health Service softened the impact of inequality, but it too lagged behind major European competitors in terms of social mobility and public health.
More surprisingly, judged by the yardstick of wealth creation that Hayek preferred, his model fared worse than the system it replaced. During the twenty-five years from 1951 to 1976 when the United States labored under a business-deterring, high-taxation, heavily regulated regime, America launched no fewer than twenty-three of the largest companies in the world, three more than were created in the thirty-year Austrian period of low taxation, high rewards, and light regulation from 1976 to 2007. And after recording annual returns close to 10 percent from 1950 to 1970, Wall Street’s returns dropped to a pallid reward of 5.58 percent for the two decades from 1988 to 2008. Far from equality being bought at the expense of economic efficiency, the economy expanded faster during the very years when, as the author Robert Putnam judged it, “America was . . . more egalitarian than it had been in more than a century.”
In Madison’s political marketplace, each faction was expected to fight for its own interests, the wealthiest as much as the poorest. The policy of cutting taxes and deregulating the markets had been publicly discussed and repeatedly voted for by the electorate and, until the crash, the outcome apparently benefited the entire nation. The richest had certainly done best from the boom, but it could be argued that inequality was inseparable from capitalism, and from their earnings the top 1 percent contributed up to a quarter of the government’s revenue from income taxes. The process had been entirely democratic—yet it had ended by undermining the system that made it possible.
In eighteenth-century Britain, the landowners who spearheaded the first free-market capitalist system had behaved in the same way, using their political dominance to safeguard their own interests. With the backing of the law, they looted public land, insulated their property against moneylenders, and entailed their estates to keep them in the family. And to achieve these ends, they also corrupted the parliamentary system to the breaking point so that other groups could not gain access to the political marketplace. Yet none of this was intended, or even perceived, by a class that prided itself on its public-spirited patriotism.
When Warren Buffett called on Congress in 2011 to cease protecting millionaires “as if we were spotted owls or some other endangered species,” it was precisely the corrosive effect on public opinion that he cited as the reason for taxing the very rich more heavily. “Americans are rapidly losing faith in the ability of Congress to deal with our country’s fiscal problems,” he wrote. “Only action that is immediate, real and very substantial will prevent that doubt from morphing into hopelessness.”
Justice was not just a moral good, it was, as Adam Smith had always counseled, a practical necessity. Unless most people could be persuaded to believe that the market was fair, in both politics and the economy, it must wither and fail.