[This book review article was published in the Fall 2013 issue of The Journal of Social, Political and Economic Studies, pp. 346-357.]





David Stockman on the “Crisis of American Capitalism”: A critique

Dwight D. Murphey

Wichita State University, retired


The Great Deformation: The Corruption of Capitalism in America

David A. Stockman

Public Affairs, 2013


David A. Stockman brings to this book a culmination of a hydra-headed career.  Three decades ago, he was the director of the Office of Management and Budget under President Ronald Reagan, and one of the founders of the “supply-side” school of economics.  After leaving that job, he was active for several years in “leveraged buy-outs,” a financial decimation of companies that he now finds rather contemptible.  Now, with this book, he critiques contemporary capitalism from the point of view of someone who champions the gold standard and finds that a great many “deformations” have come into being because that standard has long-since been abandoned.  This is a provocative book that reviews, and finds fault with, several decades of the United States’ monetary and fiscal policy.  In turn, the author of this “book review article” provides a running commentary on Stockman’s insights.


Key Words: David A. Stockman, leveraged buy-outs (LBOs), crisis of capitalism, U.S. monetary and fiscal policy, crony capitalism, gold standard, Austrian School of Economics, monetary management, U.S. “housing debacle,” hedge funds, Obama stimulus package, means-testing, responses to U.S. financial crisis


          Western civilization may well be said to be “in crisis” in more than one dimension, as we see from such books as Patrick Buchanan’s The Death of the Westand Walter Laqueur’s The Last Days of Europe.  One of the dimensions is economic.  There is a feeling among a number of astute commentators that “capitalism” – i.e., the market economy – is in serious trouble from defects that go deeper than simply the Great Recession and its aftermath.  We know, of course, that socialist authors have had their own reasons for saying this for quite a long time.  What we see now, however, is that it is precisely the more thoughtful of the supporters of market economics who perceive fundamental insufficiencies and failures.  This disillusionment and call for a variety of reforms (about which there is as yet no consensus) has been evident in the titles of several books we have reviewed in these pages.  They have included John Bogle’s The Battle for the Soul of Capitalism, Richard Posner’s The Crisis of Capitalist Democracy, Pat Choate’s Saving Capitalism, and Joseph Stiglitz’s Freefall: America, Free Markets, and the Sinking of the World Economy.[1] 

          With The Great Deformation: The Corruption of Capitalism in America, David Stockman adds yet another book to this genre.   Stockman, of course, is well known as having been the director of the U.S. Office of Management and Budget during President Ronald Reagan’s first term.  He left the White House to go into business when he became disillusioned by his differences with the proponents of “supply-side economics” (the tax-cutting school of thought he had once led)  and with Reagan’s “runaway defense buildup” and “giant deficits.”  A significant fact about his life is that he went on to spend seventeen years as a leading practitioner of one of the most egregious abuses he now criticizes fervently (and rightly) in this book.  This was the “leveraged buy-out” (LBO) business done by private-equity companies.  In a candid mea culpa, he writes that “the whole business was about maximizing debt, extracting cash, cutting head-counts, skimping on capital spending, outsourcing production, and dressing up the deal for the earliest, highest profit exit possible.”  The result was “mountains of debt piled upon target companies,” leading to their failure whenever they can no long extend that debt at low interest rates. 

          This mea culpa is significant for two reasons: first, it shows that by intimate association with the abuses he describes, he is in a position to write authoritatively about them; but, second, it shows how wrong he is when he says “there is no evidence for the greed disease theory” [for capitalism’s present plight].  From his own testimony, so to speak, and from innumerable details he recites in the book, it is evident that “greed,” by which we mean the pursuit of great profit heedlessly of consequences, played a major role in the lead-up to the Great Recession. 

What probably accounts for Stockman’s inability to acknowledge greed’s role is that he has come to embrace a strictly doctrinaire version of free market thinking.  This dogma treats everything as “government’s fault,” regardless of how much people in business and finance participate in, and carry to extremes, any given abuse.   The problem is that “we have a rigged system – a regime of crony capitalism,” and thus it can be said that “the free market didn’t do it.”  With regard to LBOs, the abuses wouldn’t have been able to occur, Stockman says, if interest rates weren’t kept artificially low by the central bank and if there had not been “a radical reduction in the capital gains tax.”   This minimizing of the responsibility of private actors may comport with strict free-market ideology, but it is interesting how sharply it differs from the overall classical liberal philosophy of a free society, which has historically stressed the need for the people themselves to have “virtue,” honest dealings, personal responsibility, and civic concern.

Americans, he says, have deviated so far from sound free-market principles and into the “crony capitalism” that marries business and other interest groups to the state that there is now “nothing to stop the final triumph of crony capitalism.”  The American political system features two main political parties, each “powerfully abetted by lobbies and special interests,” that have “dug-in tax and spending positions.”  The result is a “money politics” and “statist policy ideology.”  There is no longer “a conservative party,” with the Republican Party’s 2012 presidential campaign illustrating its intellectual bankruptcy, marked by “one great platitude.”  There is, in effect, a “class war” going on.  A “palpable misdistribution of wealth” exists, with the top 1% receiving enormous windfalls while there is, for people in the larger population, no jobs recovery and their savings lose value because of the “unconscionable blow” of interest rates held by the Federal Reserve at near-zero levels.  Indeed, there has been a decades-long “economic stagnation of the middle class.”  In the aftermath of the Great Recession, “the so-called recovery is… highly skewed to a small slice of the population at the top of the economic ladder.”

Although Stockman is applying a strict Austrian-school ideal of a free-market economic system in arriving at this critique, the many other authors like those mentioned above who see, with him, a “crisis of capitalism” do so from different vantage points, not necessarily agreeing with the premises that now guide Stockman.  The central feature of Stockman’s critique is that he considers the gold standard essential to a market economy.  Although his book doesn’t limit itself exclusively to monetary and fiscal issues, their discussion makes up by far the greatest portion of his critique.  He says the book has no footnotes because he set out to interpret the facts rather than to gather and explicate them, but this does not inhibit him from providing an  extensive (and valuable) discussion of U. S. economic history going back to the nineteenth century.  As he sees it, the key factor leading to the innumerable later deviations from free-market principles has been the “monetary deformation” that has come from “printing-press money.”  Those who don’t share his enthusiasm for the gold standard, but who nevertheless favor a market economy, will find many of Stockman’s criticisms of the current situation valid,  while considering other criticisms ill-founded.  

For this reviewer, the book brings to a head certain issues that have been pivotal in his thinking for almost sixty years.  As a college student, I studied Ludwig von MisesHuman Action assiduously, seeking in this giant of the Austrian School of Economics a corrective to the socialist message pounded home by most of my professors at Colorado University.  I was bothered, though, by one persistent question.  It wasn’t long after the end of the Great Depression, and my concern was whether free-market thought had a satisfactory answer to the trade cycle.  The issue went to the heart of capitalism’s legitimacy.  If millions of people live lives of individual responsibility, building their skills, businesses, families, savings and fortunes through diligent effort, only to find all of that dumped periodically because of systemic defaults that are far removed from their own control, that, I thought, is intolerable.  (A market economy would hardly be recognizable as such without an acceptance of the fact of individual failures – the “creative destruction” that Schumpeter famously praised.  There is much human drama, including personal tragedy, in a free system.  But the vicissitudes of striving are something quite different from an indiscriminate dumping.)  It was with the trade cycle issue in mind that I attended Mises’ classes and seminar at New York University in the mid-1950s.  It turned out that I wasn’t satisfied with the Austrian School’s acceptance of the period adjustments-to-economic-shocks mandated by the gold standard, with its corollary of “let the bottom fall out quickly so that healthy market forces can regrow to restore the economy.”  Letting the bottom fall out was a prescription that was oblivious to what it meant for millions of people and to the requirements of legitimacy.

This is not a caricature of the gold standard position.  It is true, certainly, that the gold standard has some major strengths, such as making necessary a quick adjustment of any disparity in the balance of payments between countries, but Stockman’s discussion provides an excellent illustration of the thinking I didn’t find acceptable.  In his Austrian School philosophy, “jarring corrections” are “largely accepted as a necessary and natural check on greed, debt, and delusion in the financial markets.”  At the height of the 2008 crisis, it would have been “truly constructive from a societal vantage point” to see “hundreds of billions in long-term debt and equity capital that underpinned the Wall Street-based speculation machines … wiped out.”  It is a “vital mechanism of free market capitalism… to purge error and speculation.”

Another issue that is related but not identical to this one is relevant here.  Global free trade theory accepts completely the model of free-flowing capital and labor, producing “market efficiencies.”  Sold as it is on the value of that model, it is proudly indifferent to the outcome experienced by any given people.  Parochially national concerns play no role.  Accordingly, if workers in the likes of China, India, Vietnam and Bangladesh will work more cheaply than American workers, they, and not the American workers, should have the jobs.  The “protectionism” that would shield American workers from Third World competition is seen as an unacceptable deviation from sound theory.  Stockman agrees.  Citing “Chinese export factories,” he speaks of “the needed downward adjustment of domestic wages and production costs [in the United States]… essential to preserving competitiveness and jobs.”  “American workers,” he writes, “priced themselves out of the world market.”  Those of us who disagree with this will find it admirable to hold steadfastly to a theory and its implications, as Stockman does on this and on trade cycle policy, but will prefer a different model as best serving a market economy for a particular people.

With regard to the trade cycle, the alternative I saw to the gold standard was Milton Friedman’s monetarism, and his call for the central bank (in the United States, the Federal Reserve) to increase the money supply in small incremental steps mandated by law.  Stockman says this proved unworkable because the Federal Reserve found no way to know what the quantity of money was at any given time, or to accommodate changes in the “velocity of money,” and accordingly dropped all concern about monetary aggregates and went to a policy of managing the economy by setting interest rates.  Although Friedman’s proposal seemed sensible, it has become evident over the years that a system of monetary management, conducted according to varying objectives and differing techniques, has abundantly demonstrated its ineptitude.  In this reviewer’s opinion, it pretty clearly falls short as a satisfactory structural foundation for a market economy.  There are ways to make the management less subject to inflationary abuses, but these have long-since been rejected by the intellectual and political culture.  

Stockman’s book critiques the twentieth (and now twenty-first) century experience with managed money from a point of view that, favoring the gold standard, rejects macro-economic management altogether.  This leads him to some spurious criticisms, but, be that as it may, he does spell out chapter and verse about a long string of fiascoes that don’t commend the system to us.

If monetary management within the current banking structure isn’t feasible, we are back where I was many years ago, looking for a satisfactory solution to the problem of cyclical collapse.  Unfortunately, this review cannot be the place to pursue that search.  I have written extensively with a proposed solution,[2] but it almost certainly runs into the same barrier Stockman’s preference does.  He says a return to the gold standard is too radical to stand any chance of adoption.  My proposal is even more radical, and runs afoul both of prevalent ideology and the massive banking and other interests it would overturn.  It will almost certainly not receive consideration unless future events, such as the on-going displacement of remunerated employment by labor-saving technology, bring the now-existing dissatisfaction to a rolling boil, and by that time social animosities may be so great that finding consensus will be even less possible than it is now.

A review of Stockman’s book will not be complete without noting what he means by his title: “The Great Deformation.”  There are many specifics encompassed by him within the general term “deformation,” but his overall meaning refers to any departure from his preferred gold standard, limited government model of a market economy.   The main departure, of course, is the “monetary deformation” that comes from going to “printing press money.”  Many if not most of the specific deformations stem, most fundamentally, from the decades-long process of monetary and credit expansion.  This provides the context for the “crony capitalism” that brings with it many other features: the struggle of interest groups for preferences of all kinds; the corruption of the political system; the abandonment of “neutrality” as a pillar of the tax system; the wild undertaking of risk because markets are expected to continue to rise and government is counted on as a back-up; the flight into mortgage abuses, including the repudiation of lending standards; the craze of securitization, with its ever-more esoteric and opaque investments; the shift of the economy away from manufacturing and into financialization – and a good many others.

Such deformations, Stockman says, go far beyond the domestic U.S. economy.  “One of the great deformations on which the modern global economy rests precariously” has been “the willingness of statist leaders in East Asia and the Persian Gulf to endlessly swap the resource endowments of their lands and the labor of their people for dollar IOUs, in their pursuit of a flawed mercantilist model of growth and prosperity….”

He sees an abandonment of free-market principles in several features of the U.S. housing debacle.  “If the GSEs [the “government sponsored enterprises,” specifically the housing agencies Fannie Mae and Freddie Mac] had been required to pay market rates for their capital and funding, there is no reason to believe they would have survived competition from the traditional ‘originate and hold’ model of depository institutions.”  This produced “another profound distortion” when the “bricks-and-mortar banks and thrifts were driven out of the mortgage-lending business,” to be “replaced by pure mortgage brokers.”  A result was “the subprime mortgage industry,” which “was not a natural product of the free market.”  When home buyers refinanced their mortgages repeatedly to withdraw cash as they counted (for a long time correctly) on home prices’ continuing to rise, they climbed farther and farther out onto a speculative limb.  When home prices fell, millions of households faced a disastrous mountain of debt.  Stockman calls this process of “mortgage equity withdrawal (MEW)” “one of the worst economic poisons ever fostered by a central bank,” pointing out that “the Greenspan Fed actually embraced it as an important tool of prosperity management.”  An important contributor to the debacle, he says, was the Housing and Community Development Act of 1992, favoring minority and low-income home buyers, which encouraged “a pervasive, relentless degradation of underwriting standards.”  Borrowers no longer had to have “‘skin in the game’ in the form of a meaningful cash down payment.”

We have already mentioned his thinking about the leveraged buyout abuses.  He provides considerable information about them, including fascinating synopses of the fiascoes involving such companies as Alltel, HCA (“America’s largest hospital chain”), the Hilton Hotels, First Data Corporation, and American Pad and Paper (Ampad).  The abuses meant that “the accumulated equity of American business was strip-mined and transferred mainly to the top 1 percent.”  The stockholders in America’s corporations had their shares diluted through “massive stock option programs” that benefitted top executives. 

Stockman recounts how the monetary bubble led to the growth of hedge funds.  “In 1990, hedge fund footings amounted to about $150 billion; by the turn of the century, they had reached $1 trillion; and by the 2007-2008 peak, they had soared to $3.0 trillion.”  He explains that “the last things hedge funds do is hedge, an economic service that might actually contribute some value added in a capitalist economy.”  Instead, “what hedge funds actually do is churn, chase, pump, and dump.  They play wagering games which extract economic rents but contribute little….”  The speculation lies not in putting investment capital into companies that are expected to perform well, but is rather “momentum trading” in which the key is to have a finger on the pulse of what other investors are enthusiastic about at any given time.  Stockman says this wouldn’t be remunerative without the “artificial economic boosts” that the monetary expansion environment provides.

It will interest readers that Stockman uses a superlative in condemning employer-provided health insurance: it is “the greatest of all abominations on the free market.”  Such insurance is not really “insurance” at all, he says, “but merely a form of prepayment for health services.”  The benefits are not “taxed like other wage income,” producing a “giant $200 billion per year tax subsidy.”  Together with the government Medicare and Medicaid programs which join in creating a system of demand for and supply of medical care with both consumers and  providers incentivized to run up the costs incurred, this results in “overutilization, overpricing, and free-riding.”  Patients and care providers all have incentives to get everything they can out of the system.  The continuing ballooning of health care costs “means that much of the non-employer plan population [including those not on Medicare or Medicaid] is eventually priced out of the health-care system.”  Stockman calls this a “crony capitalist health-care system.”[3]  It has huge political constituencies that stand against “controls and cost containment” that could put health care delivery on a sound financial basis.  The rising costs are “devouring the American economy” and are part of the fiscal profligacy that is causing the United States to “head for inexorable insolvency.”

He has much to say about the responses to the 2008 financial crisis.  With regard to the $800 billion “stimulus package” enacted in February 2009, Stockman says there was no need for it, because “the US economy actually hit bottom and began a natural cyclical rebound by June 2009.  By that point in time, not even the first $75 billion of the stimulus bill – that is, one-half of 1 percent of GDP – had hit the spending stream.”  The National Bureau of Economic Research, he says, declared “the end of the June 2009 quarter… [as] the official date for the recession’s end.”  It’s noteworthy that this reasoning has a basis other than his “let the bottom fall out” philosophy.  When he reviews the various “bailouts” – of the big banks, General Motors, General Electric, Delphi (the world’s “largest auto supplier”), AIG, and General Motors Acceptance Corporation (GMAC) – his opinion is that they were almost entirely for the benefit of the firms that had been guilty of so much financial abuse and poor management, and, moreover, that a refusal to bail them out would not have had broad ramifications for the economy as a whole.  Speaking, say, of GE, he argues that it “was not heading into a black hole; it was facing the need for a painful bout of liquidity generation which would have required either a fire sale of some of its sticky assets or a highly dilutive issuance of long-term equity or debt capital.  Both courses were feasible, but each would have resulted in a sharp blow to earnings and top executive bonuses.” Whether he is correct in thinking the economy as a whole would not have suffered catastrophe would seem to depend in part on whether a “herd-effect” of panicked contagion would have occurred.  Stockman never discusses this possibility, leaving this reviewer less than convinced by his position.  Economists will no doubt debate it for generations.

Stockman several times makes the point that social welfare programs such as Social Security and Medicare should be “means tested,” extending benefits only to those who can’t otherwise afford them.  Doing so, he says, is essential to the programs’ (and the nation’s) solvency, which is a quality they don’t have, since they are in effect gigantic Ponzi schemes funding current benefits out of taxes that are, at least in the fantasy by which they are justified, going toward funding future recipients.  “Means testing” is also essential to preventing a distribution of great sums to the well-to-do.  Stockman criticizes Congressman Paul Ryan’s proposed budget plan as “a declaration of class war,” saying that “Ryan gave social insurance a free pass through 2022 notwithstanding that trillions of this huge expenditure would go to upper-income and wealthy retirees who hadn’t earned it and didn’t need it.”

There is much in The Great Deformation that can be read with profit.  Readers will have to read it, as they must with all things, with a discriminating eye, not expecting to agree with Stockman on everything, or perhaps even on his main gold-standard-oriented critique, but – as with placer mining – uncovering quite a few nuggets of information and insight.

A major weakness of the book is one for which Stockman can hardly be faulted: that there is much more to say.  The American economic crisis has intellectual, cultural, social and political dimensions.  The  financial crisis found its roots in many things, not just in the United States’ having left the gold standard.  There is much more to say, too, about the tsunami of change that is sweeping over the world economy, challenging whether social and economic systems will be able to continue on the pattern, common to all of recorded history thus far, that has seen the great bulk of the populations supported by remunerated work.   If technology is portending a world in which most of the return will go to the owners of the capital and technology, and not to people working in jobs, there needs to be a far more extensive rethinking (of almost everything) than Stockman and other commentators are bringing to it.



[1]  The reviews of these books may be accessed online at www.dwightmurphey-collectedwritings.info in either the Article or Book Review section, or may be read in hard copy in the book The Great Economic Debacle, which can be purchased through this Journal.

[2]   See his book A Shared Market Economy: A Classical Liberal Rethinks the Market System and his article “Capitalism’s Deepening Crisis: The Imperative of Monetary Reconstruction,” both of which may be accessed on the website identified in Footnote 1 here.   The article appears on that site as Article 105.

[3]   A good example of the “crony capitalist” aspect of health care delivery was provided by an Associated Press news item on July 3, 2013: “Fifty-five hospitals in 21 states have agreed to pay $34 million to the U.S. government to settle allegations they used more expensive inpatient procedures rather than outpatient spinal surgeries to get bigger payments from Medicare, the Justice Department said Tuesday.”