News reports in the Globe highlight the growing rift between a rallying stock market and a stumbling economy. While the recent rebound in stock prices appears V-shaped, the underlying COVID-ravaged economy is heading toward the deepest downturn since the Great Depression, and its future recovery is expected to be U-shaped at best.
This sharp contrast exemplifies what’s wrong with the American economy: a perversely oversized, rent-seeking financial sector disconnected from the real economy. Finance is becoming an end in itself rather than a means to an end: the efficient production of goods and services.
Dodd-Frank reforms after the 2008 financial crisis did not fix the fundamental problems. The Volcker Rule — intended to end “casino banking” by forcing a clean break between commercial banks and their speculative “proprietary trading” desks — still does not apply. The “too-big-to-fail” banks have become even bigger and interconnected. Regulators have failed to keep up with the increasing size of the financial sector and explosion of financial “innovation,” including automated “high-frequency” trades and derivatives, which artificially increase the complexity and opacity of financial products in ways that give to advantage insiders.
The rise of the finance industry has taken place at the expense of the real economy. By the 2010s, the financial business has captured a whopping one-third of all corporate profits while creating only 5 percent of all jobs. “Financialization" is the root cause of many of our economic problems, including income inequality, growing household debt, and various “bubbles.” It is time to stop the dangerous drift toward an over-financialized economy.
The writer is former lead energy economist at the World Bank.