The unemployment predictions are grim: the St. Louis Fed is predicting that unemployment could reach 30%. To put that in perspective, during the Great Depression of unemployment peaked at 24.9%.
This spells bad news for the economy because these shockwaves starting in Main Street will begin to reverberate on Wall Street. Through financialization, Wall Street has “relentlessly [jammed] its blood funnel into anything that smells like money” and made piles of cash doing so.
But now with COVID-19 striking hard at the economy, that’s no longer the case. The various bets that casino-Capitalists have made are looking to go sour.
Debt markets are in peril
As businesses must shut down due to the pandemic, they can’t make payments on their debts. The people they lay off can’t make payments on their debts either. These loans were “assets” on books of the Wall Street banks. But should they have been recorded as bets instead? In Islam, gambling is different that interest (riba), but the analogy speaks to the gambler’s mentality that pervades the mindset of the casino Capitalists.
Financial engineering: makes risks exponentially greater
And it gets more complicated due to 'financial engineering.' Bets are daisy-chained one on top of another. Take, for example, asset-backed or mortgage-back securities (ABS and MBS, respectively), which we are the heart of the 2008 Financial Crisis. An MBS is issued by a 'special purpose vehicle' (SPV) that was set-up by a bank or investment bank. The SPV contains a pool of mortgages that are then sliced up into "tranches," which are sold as bonds to companies who earn interest from these bonds:
But the bets don’t stop there.
The companies that buy these bonds use borrowed money. As explained here, the banks that issue the loans take the ABS as collateral, which they can sell if the ABS goes down in value.
So, let’s see the chain reaction in the making once the COVID-19 layoffs start impacting Wall Street:
An example of “naïve bank” in the financial crisis was Düsseldorf-based IKB bank, which invested heavily in "toxic subprime mortgages," who had to be bailed out by the taxpayers and others.
Stock markets: A mirage of value
And then there are stocks. The underlying discounted cash flow model. The way assets, such as stocks, are valued is through the discounted cash flow model:
The reality is that DCF is a guess (cash flows) divided by guess (the discount rate). Given this guessing game behind the stock market – it should be no surprise that the S&P 500 lose more than $2 trillion in value within minutes of opening on Monday, March 16th, 2020, in the wake of the COVID-19 virus crisis.
Financialization: How it hollowed us out
How did we end up here? Banks and investment banks make a lot of money issuing bonds, ABS, MBS and stocks. Consequently, there was a concerted effort to siphon off profits from Main Street to Wall Street through such schemes. For example, the big banks are buying up student loans and selling them as bonds – the same way they did with residential mortgages. What does this mean? The banks will work diligently to lay claim on the earnings of that new grad for years to come - thereby eliminating any prospect for them to save. So, is it wonder how most have no savings and most are mired in debt? The interest-laden debt, the securitizations, derivatives and other 'financial engineering' have been working in the background to hollow out Capitalist society. It is these approaches to the economy that have robbed us of any savings to withstand the economic ravages that are brought about by the pandemic.
Insurance: “Right now when I need it the most ever, they have turned their back on us.”
Companies that bought 'business interruption insurance' are also finding this piece of the FIRE economy (Finance, Insurance, and Real Estate) leaves them in the cold. A class-action lawsuit has been launched against companies like “Aviva Canada Inc, Co-operators General Insurance Company and Desjardins Financial Security Life Assurance Company, [who] are named as defendants in the suit.”
The problem with insurance is that they are not designed to cover society in the time of catastrophic loss like we're experiencing with the COVID-19 pandemic. The same thing happened in Katerina. The judge ruled that the insurance companies were not on the hook for flood damage but only wind damage. For-profit-enterprises are not designed to address our well-being. This is the job of the ruler, which must take care of people and be held accountable for this task.
Stocks: A mirage of value
And what about the “responsible people” who put their savings in the stock market for a 'rainy day'? It looks like the COVID-19 storm washed that one out as well. Beyond the $2 trillion evaporating, the Dow Jones posting “worst quarter for the Dow since 1987”.
The violent swings in "value" on the stock exchanges illustrate how such valuations were fake all along. The companies possess the same personnel, plants, property and equipment they did a few minutes earlier, and yet they are worth trillions less in value. Capitalism ascribes values to anything that would attract a price tag and respond to supply and demand mechanics, irrespective if that thing (stocks or otherwise) has actual value or not. A more sensible approach is to value a company in a sale by experts. But this would mean abolishing the stock market altogether.
Capitalism: A fantasyland approach to economics
In a Capitalist society, things are not what they seem. The house one lives in is owned by a bank. The car that one drives is owned by the finance company. The stocks in one’s portfolio can vanish into the ether. Even the dollar is not backed by gold or silver. It’s all fantasy. It’s all fake. Banking on fantasies is a lousy way to prepare for the inevitable storms of life. Pandemics and plagues are part of human history. But capitalism doesn’t ready us such eventualities. Instead, it hollows us. The bank can seize the house. The finance company can take the car. Insurance companies fight forever in the courts. The stocks are gone too, so they aren’t going to help on this rainy. No place to live. No way to get around. No savings. It was all fantasy.
Islam: An economic system built for reality
Islam, in contrast, requires the use of reality. Even the currency must be real metal: gold and silver. When you make an investment contract, it must be with a real live person and not a fake corporate personality. And there are no mortgages, lines of credits or asset-backed securities because interest is illegal. Insurance is not permitted either.
More fundamentally, Islam lets business do business and government do the governing. So, when bad things happen, those in charge of the Islamic society are responsible and accountable. Take, for example, the famine that struck Madinah in 18AH, when Umar bin al-Khattab (ra) was the Khaleefah. People didn't have to file insurance claims or lobby the wealthy companies to produce food. Instead, he went to work. He sourced food from the more prosperous provinces, Egypt and Syria, to help. He set-up tents around Madinah to house and feed those adversely affected by the famine. Such a model stands tall when looking at how an Islamic society is equipped to deal with a situation like COVID-19 when it strikes.
In sha Allah, in the next instalment, we will be looking at how the corporate destruction of small businesses has made the economy less resilient in fighting off this pandemic.