What is Neoliberalism?

As it started with a crisis, Golden Age of American economy ended with another one
in 1970s. This period is a transition process that changed a set old economic policies
seen as reasons for instability, stagnation, high inflation and declining profitability.
The adoption of new policies aimed to isolate the market and all sort of economic
activities from government interventions, and it named as neoliberalism (Orhangazi
2008, 50). This essay seeks to answer the question “What is neoliberalism?”. The
first part focuses on the historical reasons behind the rise of neoliberalism while the
second sets the theoretical background for the neoliberal economic policies.
Following the review of economic theories, the final part provides a closer look at
main features of neoliberalism in terms of labor-capital, labor-government, capital-
capital, and capital-government relations.

Historical Reasons behind the Rise of Neoliberalism

The unregulated economic structure of the 19th century leaded Black Thursday in
1929. The problems coming with the Great Depression is solved with Keynesian
regulations. As oppose to unregulated market conditions, governments took an active
role in regulations for all sort of economic activities. Regulations of this term had
three aims: (1) the stability of financial sector, (2) sustainable growth, and (3)
increasing accumulation (Orhangazi 2008, 29), and this aims were succeeded in
period between 1940-1970 which is named as “Golden Age of Modern Capitalism”
(Crotty 2002, 2).

This secure and stable economic environment under the protection of governments
has started to change with the end of cheap oil period. Although economic instability
began in late 1960s, it reaches it peaks with increasing costs of Vietnam War as the
consequences of two OPEC oil shocks. These developments had two different effects
on the US government and NFCs. On the government side, FED started to pay money
to buy government bonds to create sources for the debts of US government. Increase
in the money supply causes inflation. On the NFCs side, in addition to high labor
wages, the oil shocks doubled the cost of production. Firms that did not fail in this
period started to shrink to reduce their costs. This solution causes the increase in
unemployment. High inflation with the high employment causes an unexpected
phenomena in the economy, namely stagflation. It was unexpected because these two

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 conditions cannot happen at the same time. Normally, the monetary policy solved
high employment problems with increasing unemployment, and high unemployment
problems with increasing inflations. At this point, it is important to mention
“Impossible Trinity”. In international economics, it impossible to sustain capital
mobility, autonomy in monetary policy and stable exchange rate at the same time.
With the Bretton Wood system, there was fixed exchange in which the value of
American dollar fixed to the gold. However, monetary policy was inefficient to fight
with inflation despite capital control. The government forced financial institutions for
low interest rate, and they were not able to compensate level of interest rate anymore.
As a consequences of these developments, the US traded off stable exchange regime
with capital mobility. She stated that no longer they could back the dollar up against
the value the gold. With this statement, the Bretton Woods system ended and floating
exchange rate regime started. Another situation triggering the rise of neoliberalism is
“excessive debt in the Third World” (Crotty 2002, 2). Bretton Wood institutions, IMF
and World Bank were responsible for well-being of world economy. IMF was to give
loans to countries having deficit and debt problems. However, the crisis also
increased further burdens IMF’s shoulder.

At this environment, financial institutions already started to break the rules of

regulations. For example, they create hybrid financial institutions like funds and
mortgages. Funds only give the deposit, and mortgage only give loans. After Great
Depression, this kind of innovations restrained with Glass-Steagall Act, which
separated investment banks from commercial banks. (Alıntı).

Also, a consensus in the financial sector was progressively growing against the
regulatory system. This consensus was consisting of political elites in US and Britain,
businessmen, and academia (Crotty 2002, 2). Ronald Reagan in US and Margaret
Thatcher in Britain was elected. Their policies intended to shrink to effects of state on
the market with decrease the government spending, privatization and loss of power in
welfare policies. “Falling profit rate and a moribund stock market” causes the
opposition from businessmen to regulations. In academia, Australian School and
Friedrich von Hayek’s critics about government control gain respectability. Hayek in
1974 and Milton Friedman in 1976 won Nobel economic prize in economics (Harvey

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 2007, 22). At the same term, also because Soviet Russia was losing power, the old
success of the government control became questionable.

Theoretical Background
Neoliberal theories are affected from Adam Smith’s “invisible hand” that assumed the
best way to regulated market is not regulated it all. The market can fix them.
Although, this theory tried before the Great Depression, and its failure was proven
with the Great Depression, the failure of regulations lead economy to tried this theory
again. However, as we saw in 2008 mortgage crisis, the theory is doomed to failure
again.

As Karl Marx presented, because of its characteristic, the capitalist system is doomed
to failure. Innovations cannot hinder the crisis, but they can slow down the process.
One way is slow down the over-accumulation process that is succeeded with
globalization and financialization. On the other hand, according to Arrighi,
financialization is the second phase of a hegemonic cycle. As in the period after Great
Depression, in the first phase the hegemon leads the economy through creating “the
conditions for wider or deeper divisions of labor” (Arrighi 2005b, 87). With the new
conditions for wider or deeper divisions of labor, constant and variable capital
increases which mean production increase. Also to this, this is not an ending process
because M-C-M is a vicious cycle. Every time the investment made capital increases.
At some point, there is no possible way to reinvest the money without reducing the
profit margins (Arrighi 2005b, 87). Therefore, the phase of material expansion is
followed by over-accumulation of capital. Over- accumulation is the starting point of
the second phase which is financial expansion. In financial expansion, profit comes
from not production but from “borrowing, lending and speculating” (Arrighi 1997,
154) Financialization enables the capitalist organization to maximize profit without
increasing constant or variable capital. (Pollin 1996, 114) However, this, also with
over-accumulation of capital, increases the competition among the capitalist
organization. In the financial expansion phase, every capitalist organization has
enough money but the problem is finding a profitable place to lend this money.
Therefore, scarcity is the reason for competition.

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 Competition is an important component of the neoliberal theory. Neoliberal and
neoclassical theorists assume that in a competitive market excess demand or supply
impossible. As it presented in Say’s Law, supply always creates its demand. In
addition to cut-throat competition, production costs is the reason for this necessary
equilibrium. This also means that Keynesian aggregate demand management is
unnecessary (Crotty 2002, 5).
The importance giving to free trade is another inheritance of neoliberalism from
neoclassical economics. Elimination of cross-border barriers and globally integrated
financial markets will raise efficiency and productivity. It is a solution both for high
labor costs and over-accumulation. This means capital can move places where there
are the cheap labor and new investment opportunities.
Features of Neoliberalism
Before economic instability in 1970s, speculative acts of financial markets seemed to
the reason for the economic instability. Also, financial sector triggered the cut-throat
competition among Non-Financial Corporations (NFC). Because of these, the US
financial system became the main target of regulations. Regulated financial
institutions are used to supply productive capital at low interest rate to NFC. With this
way, production and investments were increased. A series of laws, “including “the
Banking Acts of 1933 and 1935, the Security and Exchange Act of 1934 and various
versions of the Federal Reserve Act”, were implemented to restricted the activities of
financial institutions (Orhangazi 2008, 29). One one of them is Glass-Steagall Act
which restrain the joint-stock companies and representatives of banks from the board
of corporates. It separated investment banks from commercial banks. Also, protective
mechanism were implemented to hinder bank failure in economy. In contrast,
neoliberalism is liberalization of financial institutions. As Crotty (2002, 11-12)
mentioned: “We have moved from a Golden Age system in which finance supported
real sector growth and capital accumulation, toward a neoliberal system in which
finance in some sense ‘dominates’ the real sector, impeding economic growth and
imposing more regressive distribution systems on most of the global economy”.

With neoliberalism, interest rates increases which leads to rentier capitalism. With
increase in finance-based income and valuable financial assets, financial sector
becomes a first choice of the investors. Profits in financial industries are higher than
in NFCs. This leads further financialization of the NFCs (Crotty 2002, 12).

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 Competition is another change in inter-firm relations of NFC. Before neoliberalism,
easing the competition among firms, which is corespective competition, and
government encouraging the monopolization was another important factor both for
growth and profitability. As Schumpeter presented, corespective competition, there is
partial cooperation among rival firms. For example, all firms knows that no one can
reduce the prices below the market level with unexpectedly large-scale production.
Therefore, both upper limits in production and lower limits in pricing in the
competition are not possible (Crotty 2002, 6). However, with neoliberalism, the era of
“coercive competition” began. As Crotty presented (2002, 7), it based on “cut-throat
pricing, the destruction of secure oligopoly rents, over-investment relative to demand
-- creating chronic excess capacity, and faced-paced technical innovation that often
renders recently constructed capital goods prematurely obsolete -- and the debt that
financed them unpayable”.
Before the rise of neoliberalism, government owner of the capital and production with
government spending and state-led corporations. With this way, investment and
production good problem of the industries are solved. With the neoliberalism, these
firms privatized, and government spending was reduced. Instead of direct intervention
to market, states open its borders for free-trade, make tax reductions for the firms and
rich people.

With the neoliberalism, fiscal policies lost its importance as government spending
reduces. In Keynesian Economics, the government has an important role in aggregate
demand management. Welfare policies, unionization and increase in wage as the
consequences of these provide an increase in demand for the economy (Crotty 2002,
2). However, with neoliberalism and globalization, the union lost its power. Firms
move places where labors are cheaper than their country of origin. Flexibility creates
the precarious working condition for workers. All labors are under threat of losing
their jobs. With the lack of unions and individualism, competition is also effective in
the labor market.

At international level, Bretton Wood institutions, IMF and World Bank were
responsible for well-being of world economy. IMF was to give loans to countries
having deficit and debt problems. World Bank was to finance the development
projects in developing and underdeveloped countries. However, after Bretton Wood

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 System is collapsed, Bretton Wood institutions are changed. As a solution to
weakening of late developed Asian countries, The IMF implemented “austerity”
macro policy to reform these economies in accordance with the neoliberal principles.
(Crotty 2002, 13) As similar, World Bank proposes “structural adjustment” programs
across the globe. (Crotty 2002, 4)

Conclusion
In this essay, I try to explain what neoliberalism is. Simply, it is a new economic
model to solve the problem that generated by the government intervention to the
economy in 1970s. It is deregulation process. However, as we observed in the 2007-
2008, it becomes a reason for another crisis while trying to solve the former one.

Bibliography

Arrighi, Giovanni, “Hegemony Unravelling-1”, New Left Review 32, (March/April

2005a): 23-80.

Arrighi, Giovanni, “Hegemony Unravelling-2”, New Left Review 33, (May/June

2005b): 83-116.

Arrighi, Giovanni, “Financial Expansions in World Historical Perspective: A Reply to

Robert Pollin,” New Left Review, I/224, (July-August 1997): 154–159.

Crotty, James “The Effects of Increased Product Market Competition and Changes in
Financial Markets on the Performance of Nonfinancial Corporations in the
Neoliberal Era.” In UMASS Workingpaper Series Number 44. 2002

Orhangazi, Özgür. Financialization of the US Economy. Massachusetts: Edward Elgar

Publishing. 2008

Pollin, Robert, “Contemporary Economic Stagnation in World Historical

Perspective,” New Left Review, I/219, (Sept/Oct 1996): 109-118.

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