Transactions: Nov. 17, 2008

By the time John Kenneth Galbraith died two years ago, his brand of economic thought -- essayistic, witty, John Maynard Keynes meets Thorstein Veblen -- seemed passé in a world shaped by vast, global markets, the ghost of Milton Friedman and imposing quantification. Then came the credit crisis and the Obama ascendancy, and suddenly Galbraith feels positively youthful again. That's not because of his notion that the economy would inevitably be dominated by large industrial corporations or his belief in top-down planning. Rather, it's because of his argument, contained in his 1958 bestseller, "The Affluent Society," that links a high-powered consumer society with debt, that is, with finance. True, Galbraith was a little -- a mere 50 years -- ahead of his time. He was dealing with a society that seemed go-go compared with that of the Great Depression, but one that lacked credit cards, no-money-down mortgages and home shopping, not to say junk bonds, mortgage-backed securities or credit default swaps. And yet, in a chapter called "The Bill Collector Cometh," he warned that the rise of consumer installment loans, which he distinguished from traditional business credit, would pose great and growing economic tensions and dangers.

It's fascinating to peruse this now-venerable text. Galbraith argued that the creation of debt spawns more debt; that reducing credit for whatever reason triggers a downward spiral (significantly, leverage was not then a common term). "Thus an increase in unemployment, accompanied by the fear that it might get worse, could induce a general effort to avoid new debt and reduce the old. The further effect ... could be considerable and disagreeable." We know this today as the paradox of thrift. But Galbraith had a larger point. He saw how this system would spawn "an extreme hesitation over measures which will seem to restrain the financing of consumers' goods and hence their sale." Consumers, after all, were voters. A consumer economy, he predicted, tended toward inflation, not deflation. Fifteen years after "The Affluent Society," the U.S. was hammerlocked by chronic inflation. And then came cross-dressing inflation: a bubble economy created by accomodationist monetary policy and regulation with a bias toward liquidity.

The demands of a powerful consumer economy are very different from those of an industrial or agricultural economy. Galbraith saw how a predominantly consumer economy had emerged from the ruins of the Great Depression. A consumer economy tends to be affluent in the sense that the great mass of men have escaped subsistence (there are necessities, of course, like healthcare and housing, but even they involve choice). Appetites and wants are driven by preference; demand can be shaped by marketing (his discussion of this seems crude in an age of social networking, though his exegesis of the conventional wisdom has greater bite than ever) and defined by status and identity. Demand is thus abstract, open-ended, constantly changing; it has to be fed; it grows or dies. In other words, it mirrors our gargantuan, complex, global markets. Indeed, it may well be that the liquidity and leverage needed to fuel this ever-changing (and eternally innovative) cascade of wants and needs can only be generated by a large, high-revving, speculative financial sector. (Speculation and gambling are major consumer preferences all by themselves.)

Why does this matter? It speaks to several issues percolating among the punditocracy. One is the belief, articulated by populists like Kevin Phillips, that the rise of finance and decline of manufacturing (including the fading of unions and the immiseration of workers) are linked and require correction. Another is the related notion that finance has grown too large; that we can deleverage and shrink (and slash those bonuses!) and still effectively grow the real economy. Both involve big issues with elusive answers. But recognizing that finance and the consumer economy are intertwined casts a new light on the need to "save" the auto industry or revive manufacturing. Another way of saying this is that while President-elect Obama might opt to bail out General Motors, it will be less to preserve manufacturing as a long-term economic factor -- or manufacturing as a social ideal, like the family farm -- and more to insulate consumer demand from shock. It's also to say that finance will mostly survive -- unless we are poised to shift, after a disaster on the scale of the '30s, to a new economic model we can't yet recognize. The very mass politics that swept Obama to power, with its Internet-driven fundraising, grass-roots organizing and emphasis on pocketbook issues, is another manifestation of the consumerist reality Galbraith discerned in 1958: We live in a self-defining, steroidal consumer culture with finance as its pumping heart. Which is yet another reason why we're not giving up either one of them very easily.