THE GREAT DISCONNECT FROM THE REAL ECONOMY

Real Economy: The economic realm where goods and services are physically produced, distributed, and consumed in a country. It is the section where tangible values and real wealth are created.

Financial Economy: The system where financial assets such as money, credit, and securities (stocks, bonds, foreign exchange, derivatives) are bought, sold, and managed.

Main Difference and Interaction: While the real economy represents actual production and the workforce, the financial economy allocates the resources needed for this production to occur or grow. In a healthily functioning system, the financial sector is the driving force of the real sector.

So far, everything is clear. But what if the financial economy, growing on all the resources of the real economy, becomes an uncontrollable parasite? What happens if people distance themselves from real production and enter the path of making money solely out of money? First, one or two crises (2001-2008) occur, and then it turns into a monster.

Especially in the real economies of the Western world, the first priority of every government is to pave the way for global capital. Global capital has a say in up to 90% of the production, consumption, and distribution networks of countries. In the remaining 10%, we can talk about local supplier capital fragmented into hundreds of thousands. Every company that reaches a 1% market share nationwide in any sector faces an attractive buyout offer from global capital. Those who reject the offer are left alone with the punitive policies of the governments. Companies unable to cope with the global economy, coupled with the pressure of regulators, seek a protected area where they cannot be touched, or they opt to partner with global companies. Global economies took their share from every production gained. The real economy spent the 2000s in a showy manner, completely in the hands of global companies and the domestic capital they partnered with.

The situation was the same in financial economies. Whatever the index closing was on the Tokyo Nikkei, the stock markets of the countries in every crossed meridian gave the same reactions. Of course, the New York stock exchanges had the final say and the closing. The financial economy, which is hundreds of times larger than the globalization of the real economy, attained a fully global structure. When a few banks defaulted in 2008, it was called a global crisis, and world indices dropped to a third of their value. The 2015 contraction was bypassed with subsidies. While the system was thought to be clogging up in 2020, the world transitioned into flawless financial growth. During the 2020 Covid-19 period, when the entire world's real economy was at a standstill, there was no crisis; perhaps the fastest rally of the century was experienced. The year is now 2026, and financial globalization continues. Is this flawless growth sustainable?

The global real economy and the global financial economy spent the 2000s with enthusiasm. However, this system, which grew by supporting each other, is facing a new issue. The financial economy has far exceeded the real economy, which is the area it fed on. It no longer needed the real economy. Cheap credit in US dollars and euros, government grants, incentives, and tax breaks have long severed the financial economy from its natural source, the real economy. Now, the financial economy has broken away from the family that fed and limited it. Now let's go back to the past and find out where it started:

1950-1970: Balanced Growth (Bretton Woods Era) In this period, the financial system was designed entirely to support real production and trade. Capital movements were under strict control, and the banking sector was highly regulated. The total size of global financial assets was almost equal to the global GDP (the real economy) (The ratio was roughly 1:1). Finance was a realm whose boundaries were determined by real production.

1970-1990: The End of the Gold Standard and Deregulation With the removal of the dollar's peg to gold in 1971, a floating exchange rate regime was adopted. In the 1980s, led by the US and the UK, rules in financial markets were relaxed (deregulation). With the liberalization of international capital flows, financial assets began to increase faster than real growth. By 1990, global financial assets had reached approximately twice the global GDP.

1990-2008: The Disconnect and the Explosion of Derivative Markets The technology revolution, computer-aided algorithmic trading, and the invention of complex derivative products (especially the mortgage-backed securities that led to the 2008 crisis) marked this era. The financial economy completely disconnected from the real economy. Going into the 2008 crisis, while global GDP was around $60 trillion, the size of just the stock and bond markets approached $200 trillion, and the notional value of derivative markets (over-the-counter) exceeded $500 trillion.

2008 to Present: Quantitative Easing and Hyper-Financialization The 2008 crisis and the subsequent 2020 Pandemic forced central banks to print trillions of dollars of unbacked money (Quantitative Easing - QE) and cut interest rates to zero. This cheap money flowed into stock markets, bonds, and new financial assets like crypto, rather than real investments.

• Real Economy (Global GDP): Approximately 100 - 105 Trillion Dollars
• Financial Economy (Global Debt + Stocks + Bonds): Approximately 300 - 350 Trillion Dollars (~3.5 times the GDP)
• Derivative Markets (Notional Value): Over 600 Trillion Dollars (~6 times the GDP)

Why did they take such different paths at the point where they should complement and move together?Answer:

1. Regulators and supervisors taking a share from the financial growth.
2. The absence of a countervailing power against the damage this situation causes.

Conflict of Interest with Regulators and Supervisors (Regulatory Capture) Policymakers and regulatory institutions took a direct share from the massive growth of the financial sector through the "revolving door" mechanism and lobbying activities. It became a standard process for top bureaucrats and economic managements to move to the boards of giant banks and investment funds after their public duties. Since economic success began to be measured by short-term stock market indices rather than long-term real investments, the political mechanism was also encouraged towards financial bubbles and deregulation to write its own success story.

The Elimination of the Countervailing Balancing Power With the 1980s, while capital became globalized and gained the freedom to move at the speed of light, labor and social policies remained local. This asymmetry broke the bargaining power of the working classes against capital. At the same time, the newly created financial products were made so complex that the transparency necessary for civil society, the media, and the public to understand and object to this massive virtual growth disappeared.

Now the matter is left solely to a natural biological cycle.

Serdar AYDOĞAN @geoserdar