America's financial crisis has allowed all sorts of people—from British trade unionists to Asian central bankers to France's mercurial president—to declare that we're seeing the end of laissez-faire capitalism and free markets. We're not. Let's step back, take a deep breath, and put this in historical context. What is happening now is a deep, wrenching financial crisis unlike any we've seen since the 1930s. It's contributing to a broad slowdown of the American economy. The pain is spreading across the world. It's ugly. But it's not unprecedented. The history of capitalism is filled with credit crises, panics, financial meltdowns, and recessions. It doesn't mean the end of capitalism. But it might well mean the end of a certain kind of global dominance for the United States.
The current crisis is vast by any historical standards. The government will have to experiment with massive interventions in the market until credit starts flowing smoothly again. But such actions have become part and parcel of modern capitalism. Last Monday the Dow Jones industrial average dropped by 778 points, which was a 6.9 percent loss. On Black Monday in 1987, the Dow fell by 22.6 percent. That led to new regulations to curb the volatility of the stock market. In almost all the financial crises around the world of the last 30 years—and there have been dozens of them—the government has had to intervene to restore trust and confidence.
Such moves have stabilized the entire capitalist system. No modern society could accept the downswings that used to be routine for Western countries in the 19th century, an era that saw much less intervention. The average length of a recession between 1854 and 1919 was 22 months. In the last two decades recessions have averaged eight months. Between 1854 and 1919, the American economy contracted every 49 months on average. In the last two decades, it has been 100 months between contractions. Many factors have contributed to these changes but chief among them have been the government's monetary and fiscal policies.
Does this round of intervention mark a return to regulation? Well, 40 years ago governments in most countries controlled their national currency, which was not freely floating. They often owned steel companies, car manufacturers, telephone companies, and banks. They set the price of airline tickets, phone calls, stock commissions, and cement. Tariffs were many times higher than they are today in the industrialized world. Does anyone think we're returning to this world?
We can't. Capitalism is now a global phenomenon, powered by the actions of companies and governments all over the world. Countries will continue to rely on free markets and free trade to get growth and rising standards of living. Over the last three decades countries have liberalized their markets not because people like Bob Rubin or Hank Paulson forced them to do so, but because they could see the benefits of moving in that direction (and the costs of not doing so). This movement will continue to be halting and episodic, and vulnerable to political pressures. But I would bet that over the next 20 years, more countries will open up parts of their economies (in a controlled fashion) than nationalize parts of them.
The real fallout of the financial crisis will be the delegitimization of American power. People around the world once saw the United States as the most modern, sophisticated and productive economy in the world. Now they wonder, was this all a house of cards? They listened to American policymakers with respect, even awe. Today, they wonder if these officials know what they are doing. This loss of credibility will have hard consequences. The scholar and analyst Zachary Karabell said on CNN two weeks ago, "We will look back on this as the moment that the global capital base moved outside America." For decades, the United States has attracted massive amounts of capital—80 percent of the surplus savings of the world—which has allowed it to live beyond its means. That era is drawing to a close. America will have to fight to attract capital and investment like every other nation.
In a world of competitive capitalism, you need not big government or no government but smart government. We are not in a race to the bottom, on wages, regulations, or anything else. But we are competing against other countries to come up with the government policies that most effectively foster growth, innovation, and productivity. It's a time to figure out what works, not what ideological mantras to keep repeating. It's the age of Michael Bloomberg, not Margaret Thatcher.
In America today we're getting government wrong in a big way. We have a patchwork of bad regulations, subsidies, and ad hoc interventions. Policies are designed to pay off powerful constituents rather than generate long-term growth. We have the most expensive and inefficient health-care system in the industrialized world, the most wasteful energy usage, the lowest savings rate, the worst maintained infrastructure, a complex and corrupt tax code. We've gotten by despite all these problems because the overall system has been dynamic and the world looked to America as the place to put its savings and its faith. But the free ride is coming to an end. It's time to get serious.