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Moreover, it has to be understood as a global crisis enveloping the United States, Europe and China that has different details but one overriding theme: the relationship between the political order and economic life.

the origin of the current financial crisis was the subprime mortgage meltdown in the United States.

From the standpoint of economics, this was essentially a financial crisis: who made or lost money and how much.

From the standpoint of political economy it raised a different question: the legitimacy of the financial elite.

Then think of the economic system as being divisible into subsystems — various corporate verticals with their own elites, with one of the verticals being the financial system.

A sense emerged that the financial elite was either stupid or dishonest or both.

There was a crisis of confidence in the financial system and a crisis of confidence in the political system. The U.S. government’s actions in September 2008 were designed first to deal with the failures of the financial system. Many expected this would be followed by dealing with the failures of the financial elite, but this is perceived not to have happened.

The Tea Party movement emerged in part as critics of the political elite, focusing on the measures taken to stabilize the system and arguing that it had created a new financial crisis, this time in excessive sovereign debt.

Its argument was that the political elite used the financial crisis to dramatically increase the power of the state (health care reform was the poster child for this) while mismanaging the financial system through excessive sovereign debt.

What had been a minority view was strengthened by the recession.

The European crisis paralleled the American crisis in that financial institutions were bailed out. But the deeper crisis was that Europe did not act as a single unit to deal with all European banks

One is the German version, which has become the common explanation. It holds that Greece wound up in a sovereign debt crisis because of the irresponsibility of the Greek government

The Greek narrative, which is less noted, was that the Germans rigged the European Union in their favor. Germany is the world’s third-largest exporter, after China and the United States (and closing rapidly on the No. 2 spot). By forming a free trade zone, the Germans created captive markets for their goods.

Moreover, the regulations generated by Brussels so enhanced the German position that Greece was helpless.

The point is that Europe is facing two political crises generated by economics. One crisis is similar to the American one, which is the belief that Europe’s political elite protected the financial elite. The other is a distinctly European one, a regional crisis in which parts of Europe have come to distrust each other rather vocally. This could become an existential crisis for the European Union.

The first was to keep factories going by encouraging price reductions to the point where profit margins on exports evaporated.

The second was to provide unprecedented amounts of credit to enterprises facing default on debts in order to keep them in business.

This led to a second crisis, where workers faced the contraction of already small incomes.

The response was to increase incomes, which in turn increased the cost of goods exported once again, making China’s wage rates less competitive, for example, than Mexico’s.

China had previously encouraged entrepreneurs. This was easy when Europe and the United States were booming. Now, the rational move by entrepreneurs was to go offshore or lay off workers, or both.

In the United States, the first impulse was to regulate the financial sector, stimulate the economy and increase control over sectors of the economy.

In Europe, where there were already substantial controls over the economy, the political elite started to parse how those controls would work and who would benefit more.

In China, where the political elite always retained implicit power over the economy, that power was increased.

In the United States, the Tea Party was simply the most active and effective manifestation of that resistance.

In Europe, the resistance came from anti-Europeanists

It also came from political elites of countries like Ireland who were confronting the political elites of other countries.

In China, the resistance has come from those being hurt by inflation

Russia went through this crisis years ago and had already tilted toward the political elite’s control over the economy.

Brazil and India have not experienced the extremes of China, but then they haven’t had the extreme growth rates of China.

Left-wingers opposing globalization and right-wingers opposing immigration are engaged in the same process — challenging the legitimacy of the elites.

This, then, is the third crisis that can emerge: that the elites become delegitimized and all that there is to replace them is a deeply divided and hostile force, united in hostility to the elites but without any coherent ideology of its own.

The first is that the political economic crisis, if not global, is at least widespread, and uprisings elsewhere have their own roots but are linked in some ways to this crisis.

The second is that the crisis is an economic problem that has triggered a political problem, which in turn is making the economic problem worse.

The followers of Adam Smith may believe in an autonomous economic sphere disengaged from politics, but Adam Smith was far more subtle. That’s why he called his greatest book the Wealth of Nations. It was about wealth, but it was also about nations. It was a work of political economy that teaches us a great deal about the moment we are in.

In a more natural organization of the marketplace, the owners are entirely responsible for the debts and liabilities of the entity they own. That, of course, would create excessive risk, suppressing economic activity.

this is why classical economists never spoke of “economics” but always of “political economy.”

Emerging out of this complexity — and justifying it — is a moral regime. Protection from liability comes with a burden: Poor decisions will be penalized by losses, while wise decisions are rewarded by greater wealth.

problem lies not with the market but with the political system that invented and presides over the limited liability corporation.

The political elite is responsible for the corporate elite in a unique fashion: The corporation was a political invention, so by definition, its behavior depends on the political system.

The goal is not so much to achieve something as to create the impression that it is achieving something, in other words, to demonstrate that the political system is prepared to control the entities it created.

Europe thus has a double crisis. As in the United States, there is a crisis between the financial and political systems. This crisis is not as intense as in the United States because of a deeper tradition of integration between the two systems in Europe. But the tension between masses and elites is every bit as intense. The second part of the crisis is the crisis of the European Union and growing sense that the European Union is the problem and not the solution. As in the United States, there is a growing movement to distrust not only national arrangements but also multinational arrangements.

Change will be primarily violent in nature -- and thus harder to miss -- in the Middle East.

The United States is also not immune to change. In this generational shift, and all the tumult that comes with it, Washington will be forced to learn the value of restraint in balance-of-power politics, preferring to lean on regional partners and encourage strategic competition as a way of preserving its own power.

The Arab world is moving uncomfortably between two eras. The post-World War II era, in which Arab dictatorships and monarchies supplanted colonial rule, is now roughly blending with -- or in some cases outright colliding with -- a fractured landscape of long-repressed Islamist forces.

This dynamic will be particularly visible in the northern Levant region this year as Syria and Lebanon continue coming apart. From Stratfor's perspective, the regime in Syria has already fallen and is giving way to a familiar state of warlordism, where militias and clan interests reign supreme. There is no longer a political entity capable of wielding control over the entirety of Syrian territory, nor will there be for some time.

once Syrian President Bashar al Assad is removed from power, whether through a negotiated deal or by force, the Sunni forces will fragment along ideological, ethnic and geographic lines, with Salafist-jihadist forces battling against a more politically minded Muslim Brotherhood and secular Sunnis.

As their grip over Aleppo slips, Alawite forces will try to hold Damascus while preparing a mass retreat to their coastal enclave. The battle for Damascus could extend beyond the scope of this forecast.

The potential use of chemical weapons by Alawite forces in a state of desperation could accelerate the unraveling of the region; a U.S.-led coalition would have to assemble in haste to contain the chemical weapons threat.

The growing disparity in the U.S. and Iranian negotiating positions will largely relegate Iran to the role of regional spoiler. So long as Iran can create pain for its regional adversaries, it can slow its own descent.

Iraq remains Iran's primary regional imperative, however. The momentum building among Sunni forces in Syria will eventually spill into Iraq and challenge Shiite dominance.

Iran's presidential elections in June will reveal the declining relevancy of the clerical elite and the populist faction embodied by outgoing President Mahmoud Ahmadinejad. This creates a political void for the Revolutionary Guard to fill. The Supreme Leader Ayatollah Ali Khamenei will try to check the Corps' growing influence by bolstering rival military and security agencies and backing a less controversial and more politically malleable ally from the pragmatic conservative camp for the presidency.

In Egypt, the military will adapt to an emerging Islamist political order. The military will remain the ultimate arbiter of the state and will rely on a number of factors -- including a fragmented judiciary, the military's economic leverage, a divided Islamist political landscape and the military's foreign relationships -- to check the Muslim Brotherhood.

Jordan, the oft-overlooked casualty of the Arab Spring, will continue to destabilize quietly and slowly in 2013

Israel and Turkey are both greatly affected by the shifting political dynamics of the Arab world, but both have little means to influence the change. The two former allies will continue exploring ways to restore a quiet working relationship under these new regional stresses, but a public restoration of diplomatic ties is less likely.

Israel will struggle internally over how to adapt to a new regional framework in which the reliability of old working partners is called into question.

Turkey sees an opportunity in the rise of Islamist forces in the Arab world but Ankara's limited influences restrain its actions beyond Turkish borders.

A more aggressive Saudi role in Syria will aggravate the civil war and create competition with other regional stakeholders, including Turkey, Qatar and Jordan.

In 2012, the European Union took numerous steps to mitigate the financial impact of its ongoing crisis.

First, the European crisis is fundamentally a crisis of competitiveness.

Second, the crisis has a political aspect. The European Union is not a federation but a collection of nation-states bound together by international treaties.

Third, the European crisis is threatening the social stability in some countries, especially in the eurozone's periphery.

In 2013, the two largest economies of the eurozone (Germany and France) will face low growth or even stagnation. This will have negative effects across Europe.

The conspicuous divide between the ruling elite and the populations of the periphery will be a key element in 2013, and some governments could fall. But even if opposition parties take power, they will face the same constraints as the governments that preceded them. In other words, a change in politicians will not bring a substantial change in policies regarding the European Union.

The only country in the eurozone periphery that has scheduled elections is Italy (in February). If the next Italian government fails to achieve political stability and apply economic reforms, the increased market pressure on Italy will make Rome more likely to require financial assistance from Brussels.

Because of the fundamental contradictions in the national interests and foreign policy strategies of the EU member states, the European crisis will continue generating political and economic divisions in the Continent in 2013.

Outside the eurozone, the United Kingdom will seek to protect its sovereignty and renegotiate its status within the European Union. But London will not leave the European Union in 2013.

Domestic Issues After the political tumult of 2012, Russia will face another year of anti-Kremlin protests, tensions among various political factions and ethnic groups, crackdowns and government reshuffles. Overall, the political tensions will remain manageable and will not pose a serious challenge to Moscow's control.

Russia has made significant progress recently in re-establishing influence in its former Soviet periphery.

Russia's relationship with Ukraine could be its most important connection in the former Soviet Union in 2013. Russia has been pursuing integration with Ukraine, primarily by taking over its natural gas transit infrastructure and calling on Kiev to join the Customs Union.

Georgia will be Russia's main concern in the Caucasus in 2013. With the political emergence of billionaire tycoon Bidzina Ivanishvili and his Georgian Dream movement, Russia's position in the country strengthened at the expense of the anti-Russian camp of Georgian President Mikhail Saakashvili.

In the past year, Russia has changed its tactics toward Europe to preserve its presence and leverage for the future. Russia's primary link to Europe is the Europeans' dependence on Russia's large energy supplies, which Moscow knows will be threatened when more non-Russian supplies become available.

The United States and Russia will continue sparring over trade matters, negotiations for a new nuclear arms treaty and Russia's role in Iran and Syria. Stratfor does not expect major changes from Washington or Moscow that would break the gridlock in negotiations on these issues.

The low-level violence and instability that occurred throughout Central Asia in 2012 will continue in 2013.

Three things will shape events in East Asia in 2013: Beijing's struggle to maintain social and political stability amid lower economic growth rates; China's accelerating military modernization and increasingly aggressive moves to secure its territorial and economic interests in the region; and varied efforts by other regional players, including the United States, to adapt to China's changes. 

In 2013, the Chinese economy will continue the gradual, painful process of moving away from high export-driven growth and toward a model that is more sustainable in the long run.

But barring another global financial meltdown on the scale of 2008-2009, China's coastal manufacturing economy will not collapse outright. The decline will be gradual.

The ongoing, gradual eclipse of coastal China as a hub of global manufacturing over the next several years will lead to higher unemployment and social dislocation as more of China's 250 million-strong migrant labor force returns inland in search of work. 

Shadow banking is by no means new in China. But it has grown significantly in the past few years from the geographically isolated informal loan markets of coastal cities to a complex network of semi-legal entities that provides between 12 and 30 trillion yuan (between $1.9 trillion and $4.8 trillion) in credit -- at interest rates of 20-36 percent -- to thousands of struggling small businesses nationwide.

The Party's growing sense of insecurity -- both internally and with regard to the social consequences of China's economic transition -- likely will be reflected in continued censorship of online social platforms like Weibo, crackdowns on religious or other groups perceived as threatening, and the Chinese military's growing assertiveness over China's interests in the South and East China seas and Southeast Asia.

The decline of low-end coastal manufacturing in China will present enormous opportunities for Southeast Asian countries like Indonesia, Vietnam, the Philippines and potentially Myanmar -- all of whom will continue to push strongly for foreign investment not only into natural resources and raw materials industries but also into developing better urban, transport, power generation and materials processing infrastructure.

Meanwhile, Vietnam and the Philippines -- China's most vocal opponents in Southeast Asia -- will continue to push for greater integration among members of the Association of Southeast Asian Nations and for U.S. business and military engagement in the region.

The Coming U.S. Withdrawal from Afghanistan Ahead of the 2014 drawdown of U.S. troops from Afghanistan, efforts will intensify to negotiate a settlement that gives the Taliban a place in a new government.

The negotiations will face numerous obstacles this year. There will be an upsurge in violence -- both in terms of officially sanctioned attacks designed to gain advantage on the negotiating table and spoiler attacks by Taliban elements allied with al Qaeda on both sides of the Afghan-Pakistani border.

Washington's intention to reduce its presence in the region will spur regional actors to fill the void. Pakistan will increase its interactions with Russia, Central Asia and Iran to prepare for a post-U.S. Afghanistan.

India will also turn its attention eastward, where the United States is quietly trying to forge a coalition of regional partners to keep a check on China in the Indo-Pacific basin. Myanmar in particular will be an active battleground for influence this year.

Preparing for a Post-Chavez Venezuela After a year of successful campaigning for re-election, Venezuelan President Hugo Chavez is in questionable health. Although the ultimate outcome of December's medical treatment for the ailing leader is unpredictable, Chavez's decision to name Vice President Nicolas Maduro as a political successor at the end of 2012 indicates that there is significant concern for his ability to remain in power.

Although it remains possible that Chavez will stay in power through the year, for Maduro to capitalize on Chavez's recent political gains, elections may need to be called sooner rather than later, regardless of Chavez's immediate health status.

Throughout 2013, Colombia will continue the incremental process of negotiating an end to the conflict with the Revolutionary Armed Forces of Colombia, known by its Spanish acronym FARC.

This will be a year of significant transition for Mexico. Policy issues that were bottled up by intra-party competition in the waning years of the National Action Party's administration have begun coming to the fore and will dominate 2013. These include socio-political issues like education, tax and pension reform.

Skeptics contend that because the Eurozone was primarily a political creation, its economic logic is fundamentally flawed. A singular economic or political shock — such as the collapse of the Greek government — could therefore unravel the entire bloc by exposing a slew of economic problems.

Therefore if all else fails, the ECB will print money.

Monumental shifts are underway in Europe. We have no reason to believe that Greece is at the center of them. What is most interesting is that the focus, both in terms of risks and solutions, continues to be on both short-term effects and singular events. This myopia is in part because Eurozone member states, in particular Germany, have not offered a long-term solution or plan.

The question that needs to be asked is: what do Europeans, and specifically the Germans, plan to do with Europe’s security and political architecture in the long term? The answer to that question cannot be found in the financial databases of Eurostat or the Bank of International Settlement, nor especially in the coverage of 24-hour investor-news stations.

In Portugal, the Secretary of State for Emigrant Communities recently said that up to 240,000 people (roughly 2 percent of the nation's population) have left the country since 2011, due in large part to unemployment and economic contraction.

Independent of their ideological orientation, most EU governments have applied the austerity policies proposed by the European Union and the International Monetary Fund. The traditional parties' lack of alternatives to austerity has generated a growing unease among local populations.

Such crises of legitimacy are often accompanied by an increase in euroscepticism, since many of these new parties blend anti-establishment rhetoric with opposition to the European Union or Germany's leadership of the bloc.

First, political uncertainty often generates instability in the financial markets.

Second, and perhaps most important, the economic crisis creates an environment conducive to the growth of extremist political views, both from the left and from the right.

The French government understood that the only way to achieve lasting and sustainable economic growth in France was by ensuring a stable peace with Germany.

Its immediate goal was to create a customs union, which would eliminate trade restrictions between member states and establish a common external tariff for trade with the rest of the world.

It would also seek the consolidation of a common market, to allow the free movement of people, goods, capital and services.

Finally, it would seek the progressive coordination of social and fiscal policies among its members.

The rationale behind the European Communities was that if countries gave up sovereignty in specific areas, over time a greater amount of national prerogatives would be transferred to the supranational institutions.

In other words, the process of European integration would progressively weaken the nation-state and its strategic interests.

However, the remarkable growth of the European project did not bring about the abolishment of the nation-state that many analysts predicted.

EU institutions tend to generate their own agendas, which often go against the national strategies of some member states. As a result, the clash between national and supranational interests is often unavoidable.

This friction did not begin with the current economic crisis. In 1965, the French government withdrew its representation in the European Commission in protest of a plan that would give more power to Brussels in the management of the Common Agricultural Policy. To resolve the crisis, the Europeans reached an agreement under which a de facto veto power was given to member states on issues that were considered crucial to national interests. This agreement (commonly known as the Luxembourg Compromise) was designed to protect the intergovernmental nature of the European Communities and virtually froze the process of supranational integration in the 1970s and 1980s, until the Single European Act in 1986 introduced new mechanisms for qualified majority voting.

On top of the traditional tensions between national governments and supranational institutions, in times of crisis member states also tend to distrust each other.

Governments must find a balance between their foreign policy objectives, pressure from the European Union and their desire to be re-elected -- which means decisions that may make sense for the future of the European Union (such as fiscal consolidation efforts) would probably not be made if governments consider them too unpopular among voters.

Other institutions, such as constitutional courts, often threaten to block decisions accepted by national parliaments. The recent investigation by the German constitutional court on the validity of the European Stability Mechanism and the decision by the Portuguese constitutional court to block some austerity measures promoted by Brussels and implemented by Lisbon are examples of this situation.

The deep unemployment crisis in the eurozone adds yet another complication to this problem. The European elites are still largely pro-European, and most of the voters in the eurozone want to keep the euro. But with the European Union's promise of economic prosperity weakening, its members have begun to rethink their strategies. Fidelity for the European project is not unbreakable. Nor is it strong enough to support an indefinite period of extremely high unemployment.

Non-eurozone countries in Central and Eastern Europe have also begun to think of a more independent foreign policy. They remain formally aligned with the European Union and NATO, but the pursuit of closer ties with Russia is no longer taboo. And for most of them, joining the eurozone is no longer a priority.

Like most economies in Mediterranean Europe, France's has lost competitiveness since the creation of the euro, and the common currency has led to a constant trade deficit with Germany. France will seek to change its relationship with Germany without breaking it (as Paris is still interested in containing Berlin), but Paris is increasingly aware that the European project should be remodeled.

The Germans are interested in preserving their alliance with France and protecting the currency union because it benefits its exports to its neighbors and out of fear of the immeasurable financial consequences of a breakup of the eurozone.

Europe's main challenge will be to prevent these frictions from paralyzing the bloc. The European Union will also face the test of mitigating the alienation of its eastern members and closing the gap between eurozone and non-eurozone countries. In the meantime, Brussels and national governments will have to find ways to alleviate the bloc's corrosive unemployment crisis before it leads to dangerous levels of social unrest. In all these challenges, the European Union is running a race against time.

Washington’s response, while confused at times, certainly has evolved.

Washington is becoming more critical of the regime’s failings, more supportive of the grievances of the protesters, and more vocal about the need for reforms in Egypt and even elsewhere in the region.

While behind the scenes, the United States was dealing closely with Egyptian military leaders who were appealing for restraint, in public, Washington was seen by many Arab leaders as dealing recklessly with the crisis.

On the one hand, it has a strategic need to keep Egypt’s military-dominated regime in place.

This U.S. administration in particular has put considerable effort into trying to reshape the U.S. image in the Islamic world.

Moreover, Washington was juggling among various relationships it had in Cairo in trying to shape a resolution to the crisis.

others with the military were split between the old guard elite and new guard, who spent much of their life training in the United States and had thus built strong relationships with Washington — hence the uncertainty and mixed signals from Washington

No doubt the United States is fully aware of the danger of weakening the very allies that it is supposed to be buttressing in the contest with Iran, but it also sees that cracks are spreading across the facade of the old regimes, and a push toward a more pluralistic setup, to pacify the most frustrated elements in Arab societies, could be a lever that can ease pressure and avoid a catastrophic collapse.

Both are anti-system parties that have put the traditional parties against the ropes.

Grillo's remarkable performance reflects a growing fatigue among the Italian electorate with the German leadership during the European crisis.

When the total number of votes for these three parties are combined, it becomes clear that more than two-thirds of Italians said no to austerity measures. Monti's poor performance in the elections confirms this trend. No matter what happens with Italy's political future, the new Italian government will have this mandate in mind.

First, the inequality of personal well-being is sharply down over the past hundred years and perhaps over the past twenty years as well.

by broad historical standards, what I share with Bill Gates is far more significant than what I don’t share with him.

Compare these circumstances to those of 1911, a century ago. Even in the wealthier countries, the average person had little formal education, worked six days a week or more, often at hard physical labor, never took vacations, and could not access most of the world’s culture.

when average people read about or see income inequality, they don’t feel the moral outrage that radiates from the more passionate egalitarian quarters of society. Instead, they think their lives are pretty good and that they either earned through hard work or lucked into a healthy share of the American dream.

There’s a great deal of hostility toward various government bailouts, but the idea of “undeserving” recipients is the key factor in those feelings. Resentment against Wall Street gamesters hasn’t spilled over much into resentment against the wealthy more generally.

their constituents bear no animus toward rich people, only toward undeservedly rich people.

in the United States, most economic resentment is not directed toward billionaires or high-roller financiers—not even corrupt ones. It’s directed at the guy down the hall who got a bigger raise.

The high status of the wealthy in America, or for that matter the high status of celebrities, seems to bother our intellectual class most. That class composes a very small group, however

Income inequality has been rising in the United States, especially at the very top.

income growth at the very top

greater inequality throughout the distribution

When it comes to the first trend, the share of pre-tax income earned by the richest 1 percent of earners has increased from about 8 percent in 1974 to more than 18 percent in 2007. Furthermore, the richest 0.01 percent (the 15,000 or so richest families) had a share of less than 1 percent in 1974 but more than 6 percent of national income in 2007. As noted, those figures are from pre-tax income, so don’t look to the George W. Bush tax cuts to explain the pattern. Furthermore, these gains have been sustained and have evolved over many years, rather than coming in one or two small bursts between 1974 and today.1

Caution is in order, but the overall trend seems robust. Similar broad patterns are indicated by different sources, such as studies of executive compensation. Anecdotal observation suggests extreme and unprecedented returns earned by investment bankers, fired CEOs, J.K. Rowling and Tiger Woods.

But that slower wage growth has afflicted large numbers of Americans, and it is conceptually distinct from the higher relative share of top income earners. For instance, if you take the 1979–2005 period, the average incomes of the bottom fifth of households increased only 6 percent while the incomes of the middle quintile rose by 21 percent. That’s a widening of the spread of incomes, but it’s not so drastic compared to the explosive gains at the very top.

The broader change in income distribution, the one occurring beneath the very top earners, can be deconstructed in a manner that makes nearly all of it look harmless. For instance, there is usually greater inequality of income among both older people and the more highly educated, if only because there is more time and more room for fortunes to vary.

Economist Thomas Lemieux at the University of British Columbia estimates that these demographic effects explain three-quarters of the observed rise in income inequality for men, and even more for women.2

Attacking the problem from a different angle, other economists are challenging whether there is much growth in inequality at all below the super-rich. For instance, real incomes are measured using a common price index, yet poorer people are more likely to shop at discount outlets like Wal-Mart, which have seen big price drops over the past twenty years.3 Once we take this behavior into account, it is unclear whether the real income gaps between the poor and middle class have been widening much at all.

And so we come again to the gains of the top earners, clearly the big story told by the data.

If wages go up, that person will respond by seeking less work or by working less hard or less often. That person simply wants to “get by” in terms of absolute earning power in order to experience other gains in the form of leisure—whether spending time with friends and family, walking in the woods and so on. Luck aside, that person’s income will never rise much above the threshold.

It’s not obvious what causes the percentage of threshold earners to rise or fall, but it seems reasonable to suppose that the more single-occupancy households there are, the more threshold earners there will be, since a major incentive for earning money is to use it to take care of other people with whom one lives.

The funny thing is this: For years, many cultural critics in and of the United States have been telling us that Americans should behave more like threshold earners. We should be less harried, more interested in nurturing friendships, and more interested in the non-commercial sphere of life. That may well be good advice.

Their data do not comprise the entire U.S. population, but from partial financial records they find a very strong role for the financial sector in driving the trend toward income concentration at the top.

The authors also relate that they shared their estimates with a former U.S. Secretary of the Treasury, one who also has a Wall Street background. He thought their estimates of earnings in the financial sector were, if anything, understated.

Finance aside, there isn’t much of a story of market failure here, even if we don’t find the results aesthetically appealing.

When it comes to professional athletes and celebrities, there isn’t much of a mystery as to what has happened.

We may or may not wish to tax the wealthy, including wealthy celebrities, at higher rates, but there is no need to “cure” the structural causes of higher celebrity incomes.

Most of the time investors will do well by this strategy, since big, unexpected moves are outliers by definition. Traders will earn above-average returns in good times. In bad times they won’t suffer fully when catastrophic returns come in, as sooner or later is bound to happen, because the downside of these bets is partly socialized onto the Treasury, the Federal Reserve and, of course, the taxpayers and the unemployed.

Does that kind of pattern sound familiar? It happens in finance, too. Betting against a big decline in home prices is analogous to betting against the Wizards. Every now and then such a bet will blow up in your face, though in most years that trading activity will generate above-average profits and big bonuses for the traders and CEOs. To this mix we can add the fact that many money managers are investing other people’s money.

And let’s say the whole thing does blow up in your face? What’s the worst that can happen? Your bosses fire you, but you will still have millions in the bank and that MBA from Harvard or Wharton.

They gain on the upside, while the downside, past the point of bankruptcy, is borne by the firm’s creditors.

In short, there is an unholy dynamic of short-term trading and investing, backed up by bailouts and risk reduction from the government and the Federal Reserve. This is not good.

But more immediate and more important, it means that banks take far too many risks and go way out on a limb, often in correlated fashion. When their bets turn sour, as they did in 2007–09, everyone else pays the price.

The more one studies financial theory, the more one realizes how many different ways there are to construct a “going short on volatility” investment position.

In some cases, traders may not even know they are going short on volatility. They just do what they have seen others do. Their peers who try such strategies very often have Jaguars and homes in the Hamptons. What’s not to like?

If you’re wondering, right before the Great Depression of the 1930s, bank profits and finance-related earnings were also especially high.8

The moving-first phenomenon sums to a “winner-take-all” market. Only some relatively small number of traders, sometimes just one trader, can be first. Those who are first will make far more than those who are fourth or fifth.

Since gains are concentrated among the early winners, and the closeness of the runner-ups doesn’t so much matter for income distribution, asset-market trading thus encourages the ongoing concentration of wealth. Many investors make lots of mistakes and lose their money, but each year brings a new bunch of projects that can turn the early investors and traders into very wealthy individuals.

Still, every now and then Goldman will go bust, or would go bust if not for government bailouts. But the odds are in any given year that it won’t because of the advantages it and other big banks have.

In any given year, this practice may seem tolerable—didn’t the bank earn the money fair and square by a series of fairly normal looking trades?

It remains to be seen whether the new financial regulation bill signed into law this past summer will help.

The bill does have positive features.

What about controlling bank risk-taking directly with tight government oversight? That is not practical. There are more ways for banks to take risks than even knowledgeable regulators can possibly control

It’s also not clear how well regulators can identify risky assets.

It’s no longer obvious that the system is stable at a macro level, and extreme income inequality at the top has been one result of that imbalance. Income inequality is a symptom, however, rather than a cause of the real problem.

Once a financial crisis arrives, politicians will seek to limit the damage, and that means they will bail out major financial institutions.

One worry is that banks are currently undercapitalized and will seek out or create a new bubble within the next few years, again pursuing the upside risk without so much equity to lose.

A second perspective is that banks are sufficiently chastened for the time being but that economic turmoil in Europe and China has not yet played itself out, so perhaps we still have seen only the early stages of what will prove to be an even bigger international financial crisis.

A third view is perhaps most likely. We probably don’t have any solution to the hazards created by our financial sector, not because plutocrats are preventing our political system from adopting appropriate remedies, but because we don’t know what those remedies are.

They are sitting on money rather than lending it out. The biggest risk today is how few parties will take risks, and, in part, the caution of banks is driving our current protracted economic slowdown. According to this view, the long run will bring another financial crisis once moods pick up and external scrutiny weakens, but that day of reckoning is still some ways off.

It is also vital to consider not the difference between 1990 and 2011, but the difference between the 1950s and 1960s and the 21st century. This is where the difference in the meaning of middle class becomes most apparent.

In the 1950s and 1960s, the median income allowed you to live with a single earner -- normally the husband, with the wife typically working as homemaker -- and roughly three children. It permitted the purchase of modest tract housing, one late model car and an older one. It allowed a driving vacation somewhere and, with care, some savings as well. I know this because my family was lower-middle class, and this is how we lived, and I know many others in my generation who had the same background. It was not an easy life and many luxuries were denied us, but it wasn't a bad life at all.

Someone earning the median income today might just pull this off, but it wouldn't be easy. Assuming that he did not have college loans to pay off but did have two car loans to pay totaling $700 a month, and that he could buy food, clothing and cover his utilities for $1,200 a month, he would have $1,400 a month for mortgage, real estate taxes and insurance, plus some funds for fixing the air conditioner and dishwasher.

At a 5 percent mortgage rate, that would allow him to buy a house in the $200,000 range. He would get a refund back on his taxes from deductions but that would go to pay credit card bills he had from Christmas presents and emergencies. It could be done, but not easily and with great difficulty in major metropolitan areas. And if his employer didn't cover health insurance, that $4,000-5,000 for three or four people would severely limit his expenses. And of course, he would have to have $20,000-40,000 for a down payment and closing costs on his home. There would be little else left over for a week at the seashore with the kids.

I should pause and mention that this was one of the fundamental causes of the 2007-2008 subprime lending crisis. People below the median took out loans with deferred interest with the expectation that their incomes would continue the rise that was traditional since World War II.

American history was always filled with the assumption that upward mobility was possible. The Midwest and West opened land that could be exploited, and the massive industrialization in the late 19th and early 20th centuries opened opportunities. There was a systemic expectation of upward mobility built into American culture and reality.

The Great Depression was a shock to the system, and it wasn't solved by the New Deal, nor even by World War II alone. The next drive for upward mobility came from post-war programs for veterans, of whom there were more than 10 million. These programs were instrumental in creating post-industrial America, by creating a class of suburban professionals. There were three programs that were critical:

The GI Bill, which allowed veterans to go to college after the war, becoming professionals frequently several notches above their parents.

The part of the GI Bill that provided federally guaranteed mortgages to veterans, allowing low and no down payment mortgages and low interest rates to graduates of publicly funded universities.

The federally funded Interstate Highway System, which made access to land close to but outside of cities easier, enabling both the dispersal of populations on inexpensive land (which made single-family houses possible) and, later, the dispersal of business to the suburbs.

there was consensus around the moral propriety of the programs.

the rise of the double-income family corresponded with the decline of the middle class.

But there was, I think, the crisis of the modern corporation.

Over the course of time, the culture of the corporation diverged from the realities, as corporate productivity lagged behind costs and the corporations became more and more dysfunctional and ultimately unsupportable.

In addition, the corporations ceased focusing on doing one thing well and instead became conglomerates, with a management frequently unable to keep up with the complexity of multiple lines of business.

Everything was being reinvented. Huge amounts of money, managed by people whose specialty was re-engineering companies, were deployed. The choice was between total failure and radical change. From the point of view of the individual worker, this frequently meant the same thing: unemployment.

This is where the disjuncture occurred. From the point of view of the investor, they had saved the corporation from total meltdown by redesigning it. From the point of view of the workers, some retained the jobs that they would have lost, while others lost the jobs they would have lost anyway. But the important thing is not the subjective bitterness of those who lost their jobs, but something more complex.

As the permanent corporate jobs declined, more people were starting over. Some of them were starting over every few years as the agile corporation grew more efficient and needed fewer employees. That meant that if they got new jobs it would not be at the munificent corporate pay rate but at near entry-level rates in the small companies that were now the growth engine.

As these companies failed, were bought or shifted direction, they would lose their jobs and start over again. Wages didn't rise for them and for long periods they might be unemployed, never to get a job again in their now obsolete fields, and certainly not working at a company for the next 20 years.

American society on the whole was never egalitarian. It always accepted that there would be substantial differences in wages and wealth. Indeed, progress was in some ways driven by a desire to emulate the wealthy. There was also the expectation that while others received far more, the entire wealth structure would rise in tandem. It was also understood that, because of skill or luck, others would lose.

What we are facing now is a structural shift, in which the middle class' center, not because of laziness or stupidity, is shifting downward in terms of standard of living. It is a structural shift that is rooted in social change (the breakdown of the conventional family) and economic change (the decline of traditional corporations and the creation of corporate agility that places individual workers at a massive disadvantage).

The inherent crisis rests in an increasingly efficient economy and a population that can't consume what is produced because it can't afford the products. This has happened numerous times in history, but the United States, excepting the Great Depression, was the counterexample.

In political debates, someone must be blamed. In reality, these processes are beyond even the government's ability to control. On one hand, the traditional corporation was beneficial to the workers until it collapsed under the burden of its costs. On the other hand, the efficiencies created threaten to undermine consumption by weakening the effective demand among half of society.

The United States was built on the assumption that a rising tide lifts all ships. That has not been the case for the past generation, and there is no indication that this socio-economic reality will change any time soon.

If we move to a system where half of the country is either stagnant or losing ground while the other half is surging, the social fabric of the United States is at risk, and with it the massive global power the United States has accumulated.

The left would argue that the solution is for laws to transfer wealth from the rich to the middle class. That would increase consumption but, depending on the scope, would threaten the amount of capital available to investment by the transfer itself and by eliminating incentives to invest. You can't invest what you don't have, and you won't accept the risk of investment if the payoff is transferred away from you.

The right will argue that allowing the free market to function will fix the problem.

In other words, it may give more efficiency on the whole and grow the economy as a whole, but by itself it doesn't guarantee how wealth is distributed.

The GI Bill was designed to limit unemployment among returning serviceman; it inadvertently created a professional class of college graduates.

The VA loan was designed to stimulate the construction industry; it created the basis for suburban home ownership.

The Interstate Highway System was meant to move troops rapidly in the event of war; it created a new pattern of land use that was suburbia.

The United States has been a fortunate country, with solutions frequently emerging in unexpected ways.

It would seem to me that unless the United States gets lucky again, its global dominance is in jeopardy. Considering its history, the United States can expect to get lucky again, but it usually gets lucky when it is frightened.

And at this point it isn't frightened but angry, believing that if only its own solutions were employed, this problem and all others would go away.

The real political crisis will not come until the sacrifice of sovereignty moves from the realm of theory to application, but that will not occur in 2012.