An economics professor takes an iconoclastic view of finance, government, and the role the U.S. should play on the world stage

Watching a writer take on an entire school of thought is great fun: there's the shock in recognizing the magnitude of the assault, and the gratification of seeing sacred cows slaughtered. In "The Cash Nexus: Money and Power in the Modern World, 1700-2000," Niall Ferguson, Professor of Political and Financial History at Oxford University and a visiting Professor of Economics at New York University's business school, boldly and successfully challenges many of the central tenets of modern political economics. More important, his findings point to a need to rethink America's military and diplomatic posture.

"The Cash Nexus" is required reading for anyone interested in the relationship between finance and government.

But Ferguson uses stealth to advance his iconoclastic views. "The Cash Nexus" does not argue a central thesis but instead presents a series of essays, organized along historical lines, exploring the role of financial and economic power in military and political victories.

Ferguson starts with a compelling observation. Despite the prevailing determinism that sees economic forces as the main influence on politics, in fact political events - particularly wars - have had a seminal impact on financial institutions and the growth and development of markets.

The first half of the book, which examines how the financing of wars drove financial innovation and institution-building, is thorough, well written, and in many respects novel, but not the most gripping subject matter. For example, one chapter discusses how government bond yields were determined historically. Only later does one realize that this material set the groundwork for some provocative observations.

Contrary to modern revealed wisdom, which holds that superior productive capacity translates into military dominance, England was long able to punch above its weight by virtue of having developed a professional tax-collecting bureaucracy and by being scrupulous about paying its creditors, while much larger economies, like France, had comparatively poor payment records and hence less access to debt.

Ferguson disputes many widely-held views: that the costs of war, relative to GDP, have tended to rise; that economic growth supports the spread of democracy, and vice-versa; that growth leads to success at the polls (witness the failure of the Gore campaign); that the progress of democracy is inexorable.

He also argues, convincingly, that relatively high levels of military spending do not reduce GDP growth, and that the decline of the British Empire was due not to excessive military commitments, but to "understretch." And there are scintillating asides. For example, Ferguson posits that the recent stock market boom most resembles John Law's Mississippi and South Sea bubbles of the early 1700s, where his companies were a vehicle for the conversion of public sector debt to equity. The parallel is that the U.S. has reduced the government debt outstanding while encouraging citizens and employers to make retirement investments in stocks (one justification for inflated stock prices was that 401 (k) assets had nowhere else to go).

Although his examination of these topics is worthwhile in and of itself, over the course of the book Ferguson carefully moves the chess pieces into place to defend his most controversial position: "Far from retreating like some giant snail behind an electronic shell, the United States should be devoting a larger percentage of its vast resources to making the world safe for capitalism and democracy....[T]hese are not naturally occurring, but require strong institutional foundations of law and order. The proper role of an imperial America is to establish these institutions where they are lacking, if necessary - as in Germany and Japan in 1945 - by military force....The reasons it will not happen are threefold: an ideological embarrassment about being seen to wield imperial power, an exaggerated notion of what Russia and China would do in response; and a pusillanimous fear of military casualties. Perhaps that is the greatest disappointment....that the leaders of the one state with the economic resources to make the world a better place lack the guts to do it."

Despite its lucid style, cogent arguments, and broad historical perspective, "The Cash Nexus" will not suit all tastes. Ferguson puts his best material towards the end, and many readers may find his earlier chapters slow going. Similarly, Americans may chafe at the seemingly Euro-centric focus of the much of the book, but Europe offers a longer financial history and greater breadth of experience than the U.S.

Nevertheless, Ferguson's closing argument is a wake-up call. Most Americans seem to have forgotten how hard the fight for freedom has been, and how fragile many democracies are. Yet the Bush Administration's modest aims and isolationist posture seem inconsistent with increased defense spending (of course, it may simply be good for business). And Secretaary of State Colin Powell appears to have drawn the wrong inference from his experience in Vietnam: to do nothing, rather than to do something different.

"The Cash Nexus" is an ambitious and penetrating book that calls on policy makers to change their perceptions about the proper uses of power.