The Economist Who Predicted 2008 Explains China's Endgame

I think America's gone too far in privatizing everything. Election campaigns are something that should be funded 100% by government money and private donations should be banned. Not even possible. Set it [music] up in such a way that you guarantee you can't buy your politicians. Whereas you've got a system where you can buy your politicians. And [music] I think you see the results of that. >> When we look at China, what lessons do we take? >> I think [music] China learned that lesson. They've managed to combine the best of capitalism with the best of socialism. To me, it's not a case of socialism or capitalism is better. There's a ying and yang between those two approaches. Right now, my read on the economy is basically this. Um you had COVID caused a between shutting down the um the manufacturing the world over the supply chains you artificially limited supply and then you printed money like crazy and gave it to people in a way that made them want to spend it. So now you have fewer goods being chased by more money and you get roughly over the last six years about 30% inflation. Those prices have never come back down for a host of very complex reasons. It's easy to raise the price. It's very hard to bring that price back down. >> Yeah. >> Um so now we've got real wages did not keep up. >> And so the worker in in my read of the situation has been disempowered by many things, but the most important being globalization. >> I agree with that. >> China taking advantage of that and going, "Oh, you guys want to be uh paper guys? Sure. To financialize your economy. That's fine. uh we understand what made America powerful after World War II was you guys had turned yourself into the manufacturing powerhouse somewhere around World War Iish. And so by the time World War II ends, you guys are unscathed from the war. Uh everybody owes you money. You've got a ton of gold and you are the manufacturing powerhouse of the world. Facts. Say less, fam. We're now going to replicate >> basically exactly that and we're going to become that in the modern era. So if that's accurate, one, I would love to get a sense of how does the US like what are the actual steps the US needs to do >> to write the ship and then when we look at China, what lessons do we take especially recontextualized around Marx socialism? Are they capitalists? Are they socialists? Are they communist? Right? what that whole thing looks like. >> Yeah, I mean you quite I would completely agree on what globalization has done because um the argument in favor of globalization was services of the future. Manufacturing is old hat and p. We'll let cheap labor do the manufacturing in a third world country. We'll do the design in in the west and and we'll um we'll focus on services which is the growth industry. That's a complete fast. uh the economies that focused upon services. The only services that really expanded were banks lending money to people to speculate on on on prices. There was you there it wasn't a huge increase in massage services or or car cleaning or stuff like that if you want to say what services are. Uh it was literally the growth in the financial sector and that boom boommed and busted you know that that came to an end in 2007 in many ways. But manufacturing is where true value is added. And by outsourcing the manufacturing, China basically said, "Yeah, come here. We'll we'll we'll let you know establish your your activities in a a free trade zone or a special economic zone as they call them." And they were doing it deliberately to get Western technology as fast as possible. And they set it up in such a way that they also created a capitalist class inside China as a result of that foreign investment. So, China said, "We're going to industrialize." It was an engineer-driven society and it still is. Uh, their focus is on the manufacturing sector and and making things rather than the service sector. And they've been incredibly successful and like if you look at the rate of per capita growth in China since 1980 roughly, it's been about 8% peranom. Now, that means that every less than 10 years, income standards double in China. Okay? Whereas when you look in the west the rate of economic growth in America is the rate of per capita growth is of the order of 2%. Which means it takes 35 years to double living standards. Okay. Now you kept it up for long enough. One country is doubling every eight years. You're doubling every 35. Guess one win wins and very rapidly. And that's what China has done. And it's also why China seems to have come, you know, out of nowhere, people think, because when you have an exponential growth process like that, a divergence in growth rates doesn't look like much initially and then it just explodes. And that's what we've seen for China in the last six years. >> Okay. So, um, one, manufacturing back in China doing things that actually add real tangible value. I think it also gives them leverage geopolitically because now everything has a choke point in China. So that puts them in a much more powerful position. Also, they've been able to um create basically they send so many things into foreign countries there's like a glut of that thing. So the that country's own industry gets hollowed out because China can do it cheaper. And so now people just stop manufacturing cars for instance. One more thing I'll put on the table. China right now is beginning to um clamp down. I think it was July 24th. clamp down on trading paper gold and now people can only do physical gold which I think is another brilliant move. Um, so when I take those as lessons and I look at the US, >> so the US right now, wild K-shaped economy, wealthy people because of the bubble, they're just getting wealthier and wealthier. Big difference between wealth and money, but anyway, they're getting wealthier and wealthier. Uh, the people on the bottom side of the K are have never been able to catch back up with that 30% inflation. So, they just feel poorer as the day is long. Y >> what would we need to do here in the US to rectify that? >> Well, a major thing is reduce the level of private debt because one unexpected outcome of my modeling of uh of financial instability was that increasing levels of private debt reduced the share of GDP going to workers. This is this was >> walk us through why. I've studied you enough. I know what the punch line is, but most people watching will not understand why that's true. First of all, >> um >> yeah, anyway, you you know the stick. How did we end up here? >> Okay. What we what we have is if if you look at um capitalism, we tend to think of workers and capitalists. We don't include the the banking sector in there. I include the banking sector as a separate class to capitalists. Uh and so capitalism is a cyclical system. It goes in booms and busts. Profit goes up, wages go down, etc., etc. That's been part of its nature for its whole history. So, it's not an equilibrium. It's always in cycles. And when you look at what drives the system, it's actually the level of investment. So, what causes economic booms and busters investment high level of investment, you'll get a boom. Low level of investment, you'll get a slump. >> And is that investment into their own company >> into physical physical making physical goods? Okay. I don't treat the finance sector as genuine investment. That's to me that's speculation. But you get this boom and bust cycle in capitalism and you get rising profit means falling worker share and vice versa. If you just look in terms of workers and capitalists. Um the people who make the decisions about investment are capitalists. Okay? And there's let's say there's some level of profit where capitalists invest exactly what they earn. And then if they want to invest more than that they've got to borrow money. And if they make less than that, then they pay off some of their debt. Okay, that's that's my starting model. So that means that let's say the when the capital share of GDP is 20%. Then the capitalist invest 20% in GDP and if it's more than if there shares higher than 20% they invest say 30% but if it's below 20% they invest less. Okay, that's that sort of dynamic. um what that I know this is getting complicated but I I'll go back to an analogy uh that I that I find helps people understand understand this that is that capitalists borrow money during a boom and have to repay it during a slump. Okay. Now what that means is during the boom they estimate higher profits than they're going to get at at over the system because the boom changes the distribution of income. It means they've got to pay more for workers. They got to pay for raw for more materials. they don't quite get the profit they expect to get. So then the boom comes around the dynamics of the behavior of the economy reduce the amount going to capitalists they fall below that level where they are willing to borrow money to invest they stop borrowing money for that reason and the economy goes into a slump again now when that happens and you have people if firms have borrowed money uh let's say as I said 20% of GDP is the share where they invest exactly what they earn the other 80% can go to workers and workers or bankers and capitalists in this free class way of looking at it couldn't really care who gets the other 80%. They they'd invest exactly what they earn at 20%. Now, if you have a process which means fir firms are borrowing money during a boom and having to repay it during a slump, what you get is a ratcheting up effect on the level of private debt. And as that ratchet rises, more money goes to bankers and less goes to workers. Now, when I built my model, I expected to see that the increasing level of private debt would cause a fall in the profit share of GDP. Instead, I got a constant fluctuating but fluctuating around a constant level profit share of GDP. The rising level of private debt caused a falling worker share of GDP. That was in my modeling. Then I checked the American data. That's what's happened. You've had a rising level of private debt and that is through the emerging properties of a capitalist economy that has caused a fall in the share going to workers. So workers have been screwed by a higher level of private debt even though they're not the ones borrowing in that sense. So again, >> I'll make sure that I understand that. I'm not sure that I do. So okay, private debt define what makes something private debt. It comes from the banking sector >> and you're borrowing and it's private individuals who doing the borrowing. So it's it's a combination of the two. Now the one thing that I if you just said I I missed but I've heard you say many many times when if people understand what banking actually is it is not an intermediary who takes a deposit and loans out that deposit. It is a an entity that is part of a central banking system that creates money at the moment that um that loan comes into existence. So, a private individual goes to the bank, requests money, money is made out of thin air and loaned out to that person with a an interest obligation. And you're saying as that number goes up, >> then it it it is a relative decline for workers only, right? It's not it's not an actual nominal decline. Um, so they're let's say if they're making $100,000 a year, they keep making hundred,000 unless they get fired. So, but because we're creating new money and that new money is going to the company, um they are not spending that money on employees anymore. Is that what you're saying? As the private debt goes up, >> well, there's less economic activity. This is one, you know, there's so many elements of mainstream economics which is complete garbage that I've got to fight against their ideas all the time. So, one the conventional economics says banks are intermediaries. That's you've already mentioned that the model that people get taught in textbooks is the banks are like credit agencies, credit rating agencies. That's that's the way the textbooks treat them. So they think they don't actually lend money. They enable savers to lend to borrowers. That's the vision they have. Now in that world, if that were the real world, then the level of private debt wouldn't matter. Okay? Uh if because when when when uh the level of if the savers lend to the borrowers, the borrowers can spend more, the savers can spend less. If the borrowers repay, the savers can spend more, the borrowers can spend less. So the whole system is doesn't change all that much. But in the real world, banks create money and when they create money, they create debt at the same time. And this means that that extra money you've borrowed is actually aggregate added to aggregate demand. So the banking sector causes more demand by credit than there'd be in the absence of the the banking sector. And then when credit goes negative that reduces demand in the economy. So that's what I model. That's and that's what I find in the real data. >> And just to say why that's true. So the reason that the bank's creating money creates aggregate an increase in aggregate demand is because the people that are borrowing that money, let's say, use that money to hire employees. So now there's a new person that's making money that maybe wasn't before. They weren't making as much. And so now they're able to go buy things. And so it becomes private credit becomes stimulatory to the economy. >> That's right. And that's the most dominant part of stimulus in the economy. If you take a look at uh like um and this this is what I say makes me so irritated with mainstream economics. They don't even look at it credit. >> That's >> they leave it out because according to their model, the level of bank of the bank banks don't lend. >> They record the data. And it's crazy. It it really is truly crazy. But that's what I'm fighting against a crazy discipline. So they assume that banks don't add to demand because in their model where banks are intermediaries. They just change who has the demand. They don't actually change the total level. Now when you look in the real world, banks create money. That money is used by the borrower to spend. If the credit was not wasn't there, there'd be less demand in the economy. And then if people start paying their debt down, that causes a fall in demand in the economy. So credit is absolutely vital. It's the main driving factor in a capitalist economy. and it's completely ignored by mainstream economists, which is why they didn't see the global financial crisis coming. >> We'll be right back to the show, but first, let's talk about what the best [music] in the world are doing differently. Every elite athlete has a pregame ritual. LeBron's is well documented. Tom Brady's is legendary. [music] The best performers on the planet do not leave performance to chance. They prepare down to the last detail. Sleep, nutrition, how they warm up. every variable is locked in before the moment arrives. [music] I apply that same logic to my brain. Before every interview, before every deep dive, I sit down to write. I take half a shot of Ketone IQ and my brain shows up ready to rock. In fact, I've got some in my system right [music] now. Ketone IQ delivers pure ketones directly across the bloodb brain barrier. No caffeine, no sugar, no crash. Your neurons get their most efficient fuel source. Go to ketone.com/impact for 30% off your subscription order or visit your local Target to get your first shot for free. Try it for yourself. That's ketone.com/impact. Now, let's get back to the show. Now, they've obviously heard this argument. So, what is their um the sentence of logic they give as to why it makes sense to ignore credit? >> You're not going to believe me. [laughter] Okay. They mistake credit for debt. Okay? They they have no idea. They they don't even look at the banking sector. So they there was there's a paper which I'll send you a copy. I you've clearly you'd enjoyed looking at this work. I think there's a paper in 2010 by a leading neocclassical economist Leo Hannian and it's called the the great recession from a neocclassical perspective. So he's looking back at what you know the global financial crisis as we call it the rest of the world Americans call it the great recession why did it happen and he said some people argue that it's because of there was a decline in what he called intermediation services okay that's what they think banking does intermediation okay so there's a fall in the amount of of uh of credit approvals being done by the banking sector and he showed a graph and said look you look at the level of of of credit and it was 170% of GDP in 150% of GDP in 2005 and it's 150% of GDP in 2010. It's the same level. Therefore, it didn't have any impact upon the economy. And this was a paper published in a leading journal with about 30 economists including two Nobel Prize winners who approved this particular graph and that analysis of that graph to be published. Now what he had there he called it credit but it was actually debt and the difference is debt is the amount of money you owe. Credit is the change in the amount of money you owe per year. Okay so they looked at a level which says the level of private debt compared to GDP is 150% of GDP. Now they said oh they didn't even look at the numbers because if you looked at the numbers and thought hang on a sec banks lending a lenders lending out 150% of GDP per year. No way. That can't be real. They literally misunderstood a graph of debt which is the dollars people owe uh divided by GDP was a debt to GDP ratio. They mistake that for the change in debt every year and they are simply they simply ignore this analysis and my side of economics. So Ben Bernanki when he got his got the Nobel Prize there not a Nobel Prize that's what they call it. when he got that in 2022 for his work on banking uh he completely ignored a paper by the bank of England saying banks create money. So his model was of banks as intermediation services. They simply ignore what they don't want to understand. Okay. It it is really hard for me to wrap my head around um how Ben Bernani could be confused instead of having a willful reason to want to ignore that. Is there a willful reason why he would want to ignore that? Is he really just like cuz um going back to one of the first things that we said, my beef with Markx was that he wasn't um accurately tracking the actual mechanism by which the stuff happens because it's all human psychology. >> Uh the creation of money is very trackable from exactly who types what into a database. Um how you inject how the Fed injects reserves for the bank and how the bank can access more money. um how the government issues bonds but they can only be purchased by the banks from the reserves like you can actually just track this is these are the keystrokes that created that money uh this is where the money went these are the people that ended up buying that debt on the secondary market and so now I can track how the money gets into the system like there there isn't a mystery and so >> oh yes there is if you're an economist >> but I don't understand like really I don't understand so how not just being >> it's religion. >> If you want to think about what economists do, think in terms of rival religions rather than terms of an intellectual discipline. You have a religion that says that banks aren't important. Okay? And so if you don't even look at the data that tells you banks are important and that's what mainstream economists do. They have a theory that says that banks are just intermediaries and that's what they model and they they collect the data on the level of private debt. But they basically pretend that it's not the bankers doing the lending. It's households lending to firms as if you're lending out your deposit account to a firm and they don't even look at the data. And I I've had decades of experience of this and decades of pointing out that you got it wrong and they continue ignoring it because if they took it if they took notice of that then the rest of their theory would unravel. It's a bit like I mean I use the analogy all the time of I'm an ex- Catholic so I can do this. Uh it's the imagine if an archaeologist turns up at the gate of the Vatican says, "I've found the body of Jesus Christ. Would you like to take a look what's going to happen to him? He's going to be speared by the Vatican guard." They don't want to know that Jesus Christ is actually dead and buried in a tomb somewhere. It's similar for neocclassical economists. You tell them the banks create money, they don't want to know because if they take that into account, the rest of their religion falls apart. >> And so they just don't look at contrary data. Okay. Um, well, >> I know it's weird, but I've had very distressing. So, you said something a couple minutes ago that said because they don't take private debt into consideration, they did not see the 2008 crash coming. So if I'm understanding everything that you said, you would have looked at a chart and you would have seen the enormous amount of debt that is coming into uh the system is what going to be unsustainable. And so you knew this is going to have to come back down. As it comes back down, there's going to be a tight constriction. People are not going to be able to pay the debt that they owe because the economy is contracting hard. Um, and so obviously this is going to lead to massive financial distress. Was it that straightforward? >> Exactly. It really was because from my perspective, I've always followed the work of Hyman Minsky and Irving Fischer. These the two very non- mainstream economists. They focused upon the role of private debt and causing the great depression. And I' what I've done is I've taken their theories and put them into mathematical form. So that's always been my focus. And when I what I see credit as doing is adding to aggregate demand for the simple reason that when you borrow money, you don't borrow for the sheer pleasure of being in debt. You borrow to spend. Okay? So when you then borrow the money, uh you spend it. Now if you borrow off somebody else, if I borrowed off you, for example, then your spending capacity falls and mine rises. I might buy different stuff than you, but I'll the same aggregate amount is going to be purchased. If I then paid you back, same story. You'd be able to spend more, I could spend less. aggregate demand doesn't actually change. And that's the model that neocclassical economists have in their heads. It's what they teach students at university and it's what they believe themselves when they get into management positions like Ben Banani. But my perspectives and this is this comes down to how do banks actually function. It was called endogenous money which is something which only makes sense to people on the in the discipline itself. I call it bombed which stands for bank originated money and debt. And that in that world, when you borrow money from a bank, it doesn't take money out of one account and give it to you. It says, "We're going to that's a that's a great idea, Tom. Here's $100 million to start that business. By the way, you owe us $100 million." Okay? So, they increase their assets, which is the the loan they've gave to you. They increase their liabilities, which the money they're given to you, and that's how they create money. Now, with that 100 million, you've got it. You then hire people, and it you don't hang on to it. It can use spending. So that change in debt when it comes from a bank increases aggregate demand. Now when you go in the opposite direction and you try to pay that debt down, you're also eliminating demand. It doesn't matter if many people are, you know, if people there's a whole spectrum of people, some are borrowing, some are paying it off, etc., etc. It's when the aggregate level goes up or the aggregate level goes down. And when you take a look at what was happening in the prelude to the global financial crisis, there was such a high rate of increase in private debt in America and it was already so high and I was looking at Australia mainly at the time because I was I am Australian. I was looking at my own country's data more but I check the American as well. I basically said this rate of growth of debt can't be sustained. It has to slow down. When it slows down it'll probably go negative as well and that'll cause the biggest downturn since the World War II. And that's exactly what happened. I can show you again. I'll show you another chart if you like to make that point. And that uh and that's what I look at. And the mainstream still won't look at this information because it contradicts their religion. So this is >> wild. >> I know it's ridiculous, but this this is the American data. As you can see, there's government debt, and that's the one that everybody obsesses about. >> Which color? Which which color is government? >> The black is government debt. The red is private. Okay. Now, most people would think, oh, government debt must be the bigger one because that's all you ever hear about. You can see which one is bigger. It's obvious. And then what what I said that what the what the mainstream did to ignore this is they looked at the level of debt and they said oh look debt was 160% of GDP here and 160% over there didn't change. This is what happened. The change in debt went from plus 15% of GDP in 2006 to minus 5% in 2009. That's what caused the collapse. And then when you take a look at what that means in terms of house prices, you get the house price bubble being driven by it. You get the unemployment rate. The correlation between I haven't got that particular chart in front of you right now, but if I graph the unemployment rate against this chart, it's the opposite. Credit goes up, unemployment goes down. Credit goes down, unemployment goes up. They're literally mirror images of each other. According to the mainstream, there should be no correlation at all. When I look at this data between 1990 and 2015, the correlation between credit and the unemployment rate is minus.93. >> Jesus. >> Yeah, I know. That was my reaction when I first saw it. >> All right. So, let me let me state that in plain English. Uh because money is created at the time that a uh private individual goes to the bank and takes on debt, but they don't borrow the money just to borrow the money. They borrow to spend it. One of the things that they spend on which if you look at your screen now everybody you will see this >> um one of the things that they spend money on is employees. So as private debt goes up employment uh unemployment goes down and vice versa. When people start paying off that debt uh then they're hiring less people. They may be even laying them off and so now they're going to go in the opposite direction. Credit is going down, unemployment is going up. Um, okay. That that's so easy to follow and so terrifying that that's not part of the classical economic model, but for anybody paying attention, it gives you a window into what's going on. Now, something's going on right now that um worries me, which is the AI bubble, and I'm very curious to know if you see a similar rise in the private credit to fuel all the AI buildout and speculation for that matter. It's actually been hidden by the level of know they call the what do they call it these days? Private credit. I've forgotten the name they're using for it. But it's um uh large corporations pooling their money and then providing loans from non-banks. But at the same time, whenever this happens, the people who do that go and borrow money from banks as well. They might raise $100 million from individual investors and they'll go >> really fast. I don't I don't want to skirt pass this. I happen to have a little bit of an insight here. Um, if if I'm not mistaken, this is because after 2008, people took a look at the just absolute insanity of everybody borrowing stuff that they were obviously not going to be able to pay back, the fragility that that created in the market. And so, regulation was put in place. >> And the reason people are now going to private credit or whatever they're calling it, >> uh, was to sidstep those regulations and find, as you said, non-bank entities that were willing to loan this money. But if you really do a deep dive on this, which I have, they are now actively the the banks are now actively packaging up that uh credit debt, whatever we're going to call it, um, and selling it off in a very similar way that they did in 2008 so that they can get the risk off of their books and push that out into pension funds, retirement funds, 401ks, etc. um so that they can spread the risk around to retail investors who don't necessarily understand that what they're actually buying is a bunch of this overzealous debt. So you're saying okay with all that >> but you're saying we won't see what's happening in AI in that chart that we just looked at. >> No, the data wouldn't be turning up there. It's hidden in various ways. So but that's that's a real problem for me because I'd like to have the data. I want to work from data all the time. Uh but what to me the so like the actual uh telecommunications bubble to me is a classic innovation bubble in capitalism. It's happened all the time. One you one I give you a reading recommendation uh by schumped Joseph Schumpeda read his theory of economic development. Okay, that was his PhD thesis. Do not bother reading his book called capitalism, socialism and democracy. It's a waste of time. It's actually his retirement to find. Okay, don't bother reading that one. I read that when I was an 18-year-old and I thought why do people rave about shamp then I read this one theory of economic development I thought this is the first time I've read somebody's verbal book including marks by the way where the guy makes verbal logic and does not make a single error in his entire logic through the whole thing so what he what he explained was he said first of all he did this he made a starting error he took neocclassical economics seriously he believed volat that's a mistake but apart from that he was fine so what he said was in the in the system that economists use which is this idea of equilibrium in the economy. He said in equilibrium there's no profit because according to the theory you're paying the marginal cost of of uh marginal product of workers times the number of workers and marginal product of capital times the number of machines. So there's no actual profit for you. So the only way to make an entrepreneurial profit is to disturb what what called the circular flow. And he said, "You disturb the circular flow by finding some advantage out of a technological change of some sort, which means you can undercut your rivals." And he made it doubly hard for himself to model it because he said an entrepreneur is somebody with a good idea but no money. And so he rules out things like Microsoft and Google funding themselves in that situation. So then he said the banking sector provides the money they need to be able to invest. So an entrepreneur goes to a to a bank and this is almost treating banks like venture capitalists these days. goes to a bank, gets the money, and then can establish his factory to make the new technology he's trying to create. So when he does that, there's actually an increase in demand in the economy because money is being created by the banking sector. It's being spent to buy existing resources. That'll drive up goods, prices of goods and services, cause some inflation, but also cause an economic boom. Then when the technology is developed, you sell it into the market and it's now undercutting the previous systems. So your new technology comes in and makes other businesses less profitable or even unprofitable. Uh there's a slump caused by that and your technology will permeate society during the slump. Now I think that was when I read it I actually partly thought I don't really accept this. I read it in the late 1990s. But then in the 2000s of course we had the telecommunications boom and bust. We had all this dark fiber. You remember that? Okay. He's right. That's how it happened. So in in that sense shed explained the the the the boom and bust cycle in capitalism driven by technological change and explained it brilliantly and it included the banks playing a fundamental role in that and that whole system. So I think this is a again a classic shiterian boom and bust and and so we seeing a huge investment right now. That's partly why America's got a booming relatively speaking a healthy economy at the moment. One of several reasons but that's one of them. So all the investment you know building data centers buying copper uh buying you know GPUs all that sort of stuff is causing a relative boom. When the technology is implemented it will undercut many other industries uh and then there'll be a slump and then in the slump the technology will end up permeating all of society. The thing which is a real challenge about AI as you're clearly aware is that it could actually eliminate so many clerical and bluecollar jobs because you the clerical stuff you can replace with AI. The blue collar you may be able to replace with robots. It's still it's still an open question there. But the ultimate idea was that robots can ultimately replace any process worker. Okay. So what this means to me, it means a huge shift in the distribution of income and that's going to be a real challenge for America to cope with because when you have the attitude that you know you you you you earn what you can well you live off what you earn therefore you have to be able to earn income to be able to spend anything. And if you if you can't get a job because you're being replaced by robots or replaced by an AI you can't spend. So this is going to cause a real aggregate demand shock and income distribution shock for America. Uh whereas if you say well uh we're going to spread around the benefits of that technology which is feasible in say in some Chinese companies with half the production coming out of stateowned enterprises. They could probably more likely to cope with that uh distributional shock than America is. We'll get back to the show in a moment, but first, let's talk about the thing your business just can't survive without. 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They are completely brilliant as you said. Um this is an engineering culture that's done an extraordinary job of turning themselves into the manufacturing hub in the world. I'm not going to waste time with are they stealing IP or whatever. Doesn't matter. They're they build and they've done an extraordinary job of building. And I look at them trying to get out from under the US dollar. And it looks to me like they're trying to accumulate a massive amount of gold. Maybe one day they will um back the yuan with gold. Maybe not, but I could certainly see that, but certainly have a hard money uh hedge if nothing else. >> And uh it'll So it'll be interesting since anybody didn't hear you just said no. So that'll be one. [clears throat] I'd love for you to address that. Yeah. >> Um, and then when I look at the go forward strategy, I see an authoritarian country that does what you were saying before. They split and they say some things are best served by a competitive landscape and some things are best served by us, the pilot bureau knowing best. We're going to aim industry. We're going to use collective bargaining with the rest of the world. And so we can say no, you can't have any of our cars or you take all of our cars or whatever. I'm not saying that's a literal example, but that kind of thing which is very powerful. Uh they've built infrastructure the likes of which quite literally the world has never seen. It's unbelievable. >> Have you Have you been to China? Just I've only my last time was 2017. I really want to go back again. >> I really want to go, but I talk so much [ __ ] about China that I am quite literally worried about getting arrested at the >> No, don't worry. Don't worry. I'm sorry. They'll just ignore you. Lots of people talk [ __ ] about China. They're happy to they're happy. I mean, I'm not going to go to America until the orange orange monster leaves the White House, okay? Because I know I will get arrested at the American border because you'll be fine. So, just like I'm not going to find out the hard way, mate. >> That's how I feel about uh she So, anyway, I get it. We're both paranoid. So, uh I I have not gone uh to China yet. Would love to. Truly bucket list. It just absolutely looks extraordinary. But the trade-off for me is one I'm not willing to make, which is I fear authoritarian top- down rule. When they get it right, it's amazing. When they get it wrong, it's mouse China and 45 million people are dead. So that that's my big fear. Now, if you were to magic wand, and maybe we stay to Australia, but whether you're magic wanding Australia or the US, um, do you feel like kids, you've got to get over whatever this thing is. China has a better model. Do the [ __ ] Chinese model. Stop with all this individualistic [ __ ] Like, what does that >> walk us through your a large large part when I first went to try in 8182? Okay. So, right back, I was literally there during the trial of the gang of four. And for those that aren't old enough that that's not a boy band. That was the uh successes to Mao after he died with his wife being hardline uh authoritarian system. Um then Deng Xiaoing came back into power again and Dung uh evicted the gang of four. They was they were tried for the crimes against humanity. So China actually tried their uh their their miscreants in a way that America has not done. And so in terms of authoritarian countries and consequences for authoritarian behavior, China has actually done better than America on that front thus far. But what Dang Shiaing's attitude was, I don't care whether the cat's white or blacks so long as it catches mice. So a real sense of pragmatism took over the Chinese Communist Party at that stage. And I saw the opposite extreme when I was there. So uh I took a tour of Australian journalists to have a conference with Chinese journalists. And then we did a tour of the country and we went to Sichuan province at one stage and we were being shown in a range of villages and the idea was to try to get sympathy from the west because there'd been a flood recently but I was looking at the kids and I said to one of the journalists I think they've got protein deficiency disease a lot of the kids and the the journal one of the journalists was a health journalist says yes you're right that's quarkour they're suffering from it what actually happened well you look back at the history of the communist party under Mao and what you There were it was very agricultural society and you had two factions the grain faction and the legume faction and at the same time the communist party was 30 million people in a country of a billion. So one in every 30 people was a member of the communist party. Okay. Uh what that meant was that the way the command system would go the poll bureau would decide something and send a slogan down to the local level. Now the slogan might be promote uh legumes. Okay. What they would do at the local level is rip up wheat crops and plant egg yams. Then a year later there'd be a famine. The news of the famine would pass back up to the poll bureau. The power system would switch the the the uh the protein the grain group would be in dominance promote grain and then you get this cyclone booms and busts and it turned up in people's health. Uh and that was something the communist party had to get rid of. Now my one example of that was um when we went to Shanghai uh we just we we had some data that came out of u America Chinese statistics saying there had been a 17% increase in light industry output in 1980 and a 6.7% fall in heavy industry and we thought this doesn't compute. You need heavy industry to make light industry. Why did one go up and the other go down? So we kept on asking a question about it. We got a very authoritarian type answer from everybody. We followed the directives of the central committee of the Communist Party of China. I'm not joking. That was literally the first line in every answer. We finally got an answer in Shanghai. We asked a guy who was introduced to us as the economic boss of Shanghai. And we said, "Why did this happen?" He said, "Well, we followed the directives to the central committee of the Communist Party of China." I said, "Okay, what does that mean?" He said, "They gave us a directive to promote light industry." I said, "So, what did you do?" And this is a quote translated, of course, but a quote. We stripped heavy industry factories and turned them into light industry. >> Woof. >> Okay, that is just totally destructive. So, Dung got rid of all that stuff and basically said we have to experiment. We have to try stuff and see what works and stick with it and try stuff that fails and don't do it anymore. So, an experimental mindset took over the Communist Party at that stage. And people to get promoted inside the Communist Party, you had to have a degree. You need a level of education, mainly engineering. So you got the the top level of the party is a whole bunch of engineers who have proven their worth through managing local systems. That's where Z came from as well. And and therefore you get a selection process whether it's it's not democratic obviously but neither's America. Okay. What you've got is not a democracy. You have a circus and you've elected a clown. So congratulations. Okay. Um but you a genuine democracy is a you know people a people oriented selection system. What the Chinese have is a skill oriented selection system. So long as they stay away from the ideology, the the the cult of the personality and so on, which we've seen some arguments that's happening with Z. Um, but so long as that's kept in check, what it means is you have a pragmatic uh administration trying to get the the best possible outcome for their overall system. And one thing I I learned as well, a whole bunch of students attended the conference I ran and they all asked me about the ombbudsman system and I never I didn't actually answer the questions for them. I feel guilty about that. But they wanted to know what was the ombbudsman system. That was the most that was the thing most fascinated about by the west. Now what the ombudsman system came out of Sweden and that was a public official who was required to discipline public officials. Okay. If you don't meet the objectives, you get penalized for failing to meet the objectives you signed up for as an as an administrator. The Chinese have implemented a system like that. It's quite goes across the entire country. So there are performance criteria for people who get a position. If they don't meet it, they don't get promoted. So what you've got is in that sense a quality assurance system uh an innovation focused as well in the in the bureaucracy in America and in China. And of course what do you get in America? you get the best politicians money can buy. >> I look at Marxist thinking and I consider it one of, if not the most dangerous thing that is propagating in culture right now. >> But you view Markx as one of the most profoundly effective economic thinkers of all time. And so I want to understand what you see that I'm missing. >> Well, I ask a quick question. Have you read any of Mark's? I've read a lot of commentary of Marx and very little Markx directly. >> Yeah. Yeah. I mean, uh, Marx and Marxist Marxist. There's actually a funny occasion when Markx was visited by a number of young Marxists back when he's obviously still alive in the 1800s. And they expl asked them what is Marxism and they explained what it was and he said well in that definition I'm not a Marxist. >> Interesting. >> So what you find is often your worst enemies are your best friends. uh they take a particular part of your orientation and they distort it and make that what you're known for in the long term. So that's partially what I see. The reason that people demonize Marx Marks is they're demonizing his followers who've got a caricatured version of Marks in the first instance. But Mark's also contributed to that. And this is something where I again have a unique perspective on Markx. Uh because when I first uh started reading Marks, I was 20. I'm 73 now. It's quite a while ago. And it was after a student rebellion at Sydney University back in the 70s when students were revoling in the genuine sense of the word. and we decided to spend a beautiful Sydney summer sitting in cold a cold room in the um main quadrangle of Sydney University reading chapters out of desk cap together and I remember walking across to that meeting and one thing I knew about Markx from what I'd read the same sort of thing as you you know people commentary on Markx Markx argued that machinery added no no value so all profit came from labor and at that stage there was a huge building boom in Sydney and as it happened Sydney University's campus that sort of overlooks the central business district and I looked at it and said to one of my friends on the walk there, I want a very good explanation from Markx as to why all those machines and you could see all these cranes, buildings, highrises. I want a very good explanation for marks as to why those machines don't add value. So I approached it with a skeptical reason and what I found was that Markx actually gave an explanation for why they do add value. But he then retreated from that because that meant it it eliminated uh his claim to fame as being the the scientific socialist, the person who would prove that socialism had to come about because when you apply his logic properly, you find that it doesn't argue that socialism is inevitable. So I I'm I'm so irritated [laughter] with Marxists in general because uh with the exception probably of the practices in China uh most of them have no idea what Markx actually said and putting a caricatured version forward uh which is is where a lot of the ridicle of Marx comes from. >> So let's start pinning it down then. So um I everybody the people that have a caricature understanding and I'll even lump myself into that. It's going to be something uh this is collectivism. State wants everything. They want to take all your private property, etc., etc. >> I I know enough about direct marks to know that he specifically admonished that and was saying, "Look, I'm not coming for your t-shirt or your house. Uh this isn't that." What is the real >> um Mark's line of logic understanding that you've already pinned down that he sort of abandoned his own logic? the logic that you found when you read dusk capel what is it and why is it so profound >> okay well I'll start with the with the caricature that most people believe is marks about what his logic is and the argument is that uh labor creates all values so the marks the there's a there's there is a theme in marks which is started back in the 18 1840s when he first started looking at economics in 1844 and that is he said that labor is a unique commodity u I'll backtrack a The marxian and which foundation is the classical approach to economics which comes out of Ricardo and Smith and Ricardo for example to give you an idea how different Ricardo is to what modern economists argue. Ricardo said at one stage the cost of production is what ab ultimately regulates price and not as has often been said the relationship between supply and demand. Okay. Now you modern economics it's all about supply and demand. Okay. So the classical school specifically rejected that and said that machine elements commodities in a capitalist economy exchange at their cost of production. And now that left led a dilemma that if everything that sells for a cost of production, how do you make a profit? >> Okay. Now Marx's explanation was well labor's unique uh because labor uh when when you you pay something for it cost of production. The cost of production of a worker is fundamentally the subsistence commodities a worker needs to buy to stay alive. uh they might take say 6 hours to make. Remember back when Markx was writing the working day working week was 6 days long and the day was 12 hours. So the average workers working six 12-hour days and Mark said let's say that the commodities to keep the worker alive takes 6 hours to manufacture. The working contractor he's got to work for 12 hours and the gap between the six hours necessary to make the commodities to keep the worker alive and the 12 hours that he works that's the source of profit. Now what that meant was Markx also argued that over time competitive forces in capitalism would force capitalists to use more and more machinery to get a cost advantage over their rivals. But he argued that the the machinery added no value added no profit. So you've got you had a profit was the gap between the output of the worker and the means of subsistence for the worker. He called that surplus. and you divided that by depreciation for machinery plus the uh the commodities that the worker needed to consume. And because there was an increasing amount of fixed capital going in over time, the rate of profit would fall. That would lead capitalists to attacking workers trying to suppress their wages below subsistence, etc., etc. That would lead to revolution. Bang, we'd have socialism and we'd all live happily ever after. Now, uh, that was obviously completely wrong in how things worked out, okay? No argument there. But I never swallowed that argument because it meant machinery added nothing to profit and I simply did didn't make sense to me. So, I read Markx's first seven chapters very carefully and I found a brilliant explanation there uh as to why not just not labor but all commodities used in production can be a source of surplus. And this this gets a bit esoteric so pardon me if it's getting a bit hairy for people but u neocclassical the mainstream economists these days talk about marginal utility and marginal cost. You may have come across those terms in your in your Okay. Markx talked about use value and exchange value. And he said that use value is obviously what you buy a commodity for. Exchange value is what it's costs. Fairly obvious but he said they're incommenurable. If you go back to a early stage of society when you have early tribes bumping into each other and they're exchanging stuff, if say one tribe can make white leather and another tribe can make pottery, but neither tribe knows how the other tribe makes it. Uh and the they want to the tribe that makes the white leather wants the pottery, they've got to give away some of their white coats. So in that case, the utility that the buyer and seller gets affects the price. But he said after a while societies get used to the fact that they're making additional pottery and additional white coats so that they can do these for exchange and trade and they no longer care about the utility for consumption. They're making the goods for profit for exchange instead. He said in that case the use value and the exchange value become decoupled from each other and they're incommenurable. There's no relationship between the two. Now he applied that to labor again and said well h how does labor make a profit? Well how does labor contribute to a profit? Well the exchange value of labor is the subsistence commodities. The use value is the capacity to produce goods for the capitalist to sell. Gap between the two that'll create profit. That that's confirms his previous argument. But exactly the same argument applies to machinery. If you you buy a machine for its cost of production the reason you're buying it is because you want to use it to make goods and services for sale. If they're inccommenurable, there'll be a gap between the two. So machinery can also add value and therefore there's if even if there is a tendency and there certainly is one for [snorts] the ratio of fixed machinery to labor to rise over time that has no necessary effect on the rate of profit. It doesn't have to fall. Therefore there won't be an inevitability of socialism. Now you can imagine how popular that made me with Marxists. [laughter] >> Okay. >> I I can now before we go any further because I think you're right. I think for a lot of people this is going to be very heavy. And so I'm gonna restate all of this in a way that will also um nod to my thesis on where this all where economics honestly largely as a field begins to fall apart. So what I see in Markx is a desire to boil the economy down to a system that has predictable inputs and outputs and so therefore can be mapped into the future. This is why he felt that it gave predictive um indications that ultimately capitalism would cause socialism. Whether he's right or wrong is indifferent to the point I'm trying to make, which is he saw it as a knowable system that could have predictive validity. And my thing is the very thing that whenever I hear effectively any economist talk about the economy is I don't think they understand what it is. fundamentally which is a system that is almost entirely predicated on human psychology and the um a system that is being formed by both the um buyer and the seller. And so when you start getting into like price mechanisms and stuff and now I'm speaking as an entrepreneur so if anybody's encountering me for the first time I spent 25 years building businesses I've been very successful at it. So I understand all of the things that somebody who creates something is trying to do from better machinery to lower the cost so that I have better machinery than the other people I'm competing against that I can create a product where there's a psychological sense of how much I'm willing to pay for this thing that just exists in the the subconscious of the world. And so I've got to do things to reduce that cost. It could be reduction in labor costs. It could just be doing something better with a machine that outputs things much faster. Um, so I'm more efficient. I'm bartering and using my own growth as to be more important to the people that are supplying me the raw goods. And so now I'm leveraging that power to drive my cost down there over time. So I'm doing all this stuff, but I'm also trying to make my brand feel cool because I know that consumers will pay more for something that helps them signal to their friends. And so now you get into this extremely complicated like back and forth web of like all of these things that change things change in culture. My competitors changed what they're doing. What once seemed really original for me is now being done by my competitors because they saw it was cool or they saw it was successful financially. So it stops feeling cool to the end customer. Now I've got to find other things to make my brand worth the money. yada yada. And so it's it is just obscenely complicated. So when I hear somebody >> act as if you can map these things out ahead of time and know what one or two forces govern the price. I'm just like that's nonsensical. This is somebody who's never had to make payroll. And so it is a a far more complicated thing than that. And if I were just going to round it to something, it would be human psychology. >> I Yeah, I mean, I'm not going to human psychology. I'm going to go to all the stuff you've spoken about so far. So, for example, you're talking about making differentiated products. Okay. You're making something that is it goes into a market segment, but you've got some unique feature to it, whether that's the cost, the cost structure of the machinery you use to make it, which gives you an advantage, some features of the product, something that appeals about it to consumers and so on and so forth. And that's the again my side of economics which I put marks in and not the only element by a long shot but is in that side versus the textbook economics and textbook economics basically starts from let's assume we have a can opener. Okay they don't go and do that empirical work. So again part of the tradition of economics that I'm that I'm a a a modern day representative of decided to go and ask firms how they actually set prices. And now what came back is pretty much what you're spoken about here. You know, you you you choose a market segment, you make something which is a differentiated product that distinguishes you from your competitors. You work out how much of a markup you can make uh given whether your product is, you know, better or worse than you think of the other uh producers in the same market segment. And you try to give it some identification, which means you can take sales away from your rivals. That's the real world. Okay. Now, the economics textbooks live in a mythical world in which everybody makes exactly the same product. So if you read an economics textbook like Mancq for example, you'll see them saying let's uh we're going to talk about perfect competition now and a perfectly competitive firm industry has uncountable number of firms all of whom produce exactly the same thing. Now how many perfectly competitive markets are on the planet? Zero. It's a myth. Okay. And so what I'm trying to do is build an empirically realistic approach to economics. And when you do that, you all the textbook stuff gets thrown in the garbage bin because that's where it belongs. It is contradicted by empirical uh reality. And so when you try to put your model together of how the whole system functions, you have to be based on what empirically exists. And then when you put all those factors together, you can get complex interactions between sections of the economy that lead to what's called complex systems behavior, booms and busts and things like that. Uh and that's what I that's what I work on and that's what I model. whereas the mainstream believes we all all regulate to equilibrium. >> Okay, we're probably going to need to define equilibrium in a second, but I want to tie this all up with a bow and say um my beef with every economist and specifically Marx. And keep in mind, every time I say Marx inside my head, I'm thinking of the DSA and I don't know how um aware of American politics. Yeah. Okay. So, >> Democratic Socialist of America. Is that correct? >> Correct. Yeah. Yeah. Yeah. So when when I look at that movement as a philosophical movement that is trying to wrap themselves in the cloak of um the economy is uh broken. It's being weaponized against the working class and when you love the workers then you're going to give them socialism. And what I am trying to get people to understand is even if you strip out which I think resentment is what drives that ideology. But even if you were to strip that out and say they're they're really trying to help workers that >> they would need to understand what I just walked people through which is this is so complicated. The only way to get an answer is to completely um push this out in a decentralized fashion. create an environment where anybody can start a company and and honestly sometimes with a just an absolute tiny bit of capital and through the LLC functionality so that if they fail they can wipe that away. Um you decentralize it. You let everybody try. You do not try to do any planning from the top down. It's just too complicated for that. And then the people that win managed by luck. Whatever it doesn't matter. But they were able to create the thing that the world wanted and was willing to pay for added enough value that you know people return over and over and those guys can keep making payroll. So anybody that tries to do price controls from the top down or tries to allocate labor from the top down I immediately go that just fundamentally is at odds with reality. >> Yeah. Uh there's one part of reality that's odds with that expression and that is that there are some businesses that simply aren't profitable to be undertaken by individual entrepreneurs and where the market itself won't provide enough of what you need if the good is something which benefits more than just the person who buys it. So if you look at things like suridge for example, if sewage was a privately allocated system, there'd be far less suridge, there'd be far more [ __ ] on the streets. there'd be far more communicable diseases we'd all be suffering because there'd be an inadequate level of sewage and uh and and this this says that there to to be a profitable capitalist to be successful as a capitalist of course you've got to either borrow money to do something or you've got to pay dividends to your shareholders and that means your costs accumulate uh very rapidly as financial component to it as well as the actual cost of building something. So there are the long lived uh features of capitalism tech uh power systems, roads, uh hospitals, uh things that take a hell of a long time to build and don't give a return straight away are unlikely to be done as well as necessary by the profiterated side of your economy. But they're the sort of thing a government can provide because it doesn't have to make a profit. And in fact, one of the best examples of this, by the way, if you go back and search in the New York Times in the 1920s, search for Henry Ford and and Thomas Edison and a project called Muscle Shaws, which is a I think it's on the Mississippi River. It was a hydroelectric scheme. And both Ford and Edison argued that it should be government funded. And the reason they said that was it takes too long to if you try to get it as a private industry, you've got to borrow the money. You borrow the money off the bankers, you've got to pay interest to the bankers. That compounds over time. So ultimately the cost of the muscle sh hydroelectric scheme would have been far higher if it had been paid for the private sector than if the government did it. And Henry Ford was in favor of government money creation to create long-term long longived capital assets which then benefit everybody is in the market system. So this this is a way in which you can see there's a time issue to whether you want the market to provide something or the government and if it's something immediate and and it's something where consumer uh choice is is vitally important private sector for sure. But if you want something which is a background thing that all capitalists benefit from and all workers as well that's better provided by the state. And that's the division between the length of time it takes to make something and the compounding effect of having to borrow money for the private sector which doesn't apply to the government. >> So I totally agree. I'm of the mind that we want government, we want small government, but we want government. Um for that reason and quite frankly many others. >> Um so I certainly don't find myself on the libertarian side of this. Um the reason that I think this point is so important when we talk about the modern interpretation of the caricature of Marx >> which unfortunately is the marks that we encounter even if that is a unfortunate for him a sad betrayal of the the legacy that we could have had. But the the reason this becomes so problematic is as a student of history, I look back at Lenin, Stalin, Mal, Pulpot, and I see people who um used all of his words, used his name to centralize power, to centralize decision-making. It's the exact same thing that I see happening again with the DSA here in America. And I know the the deranging effect of that because the economy is so complicated. it must be um on on most things, let's just say it must be pushed down to the decentralized level where we get to take advantage of what I will call uh human selfishness. So when I look at you have is and so is is just this is how the world is. Ought is how we wish it were or from a values perspective how we think it should be. Um, I'm just like, we we have to live in is. A's nice. It gives us something to aim at, but we have to contend with is. For whatever reason, evolution saw it fit to leverage selfishness to motivate humans to take action. And so, one of the things that humans will pursue is, I want to make my life better. I want to make the life better of my family. Once we made the LLC so that you didn't have to be a wealthy person in order to start a company because you didn't have to fear the looming um lifelong tragedy of debt that now all of a sudden anybody could start a company >> and if you failed you could just declare bankruptcy for the company and move on. Now you have this ability to go oh if this person wants to get rich they want to be selfish they want to build something. The way that they have to do it is to innovate, to make something that people want badly enough that they say, "Oh, I would rather have that thing you just made than my money." And so it becomes this equal exchange. And so when I look at the character of Marks that we all have to deal with, it is it is a betrayal of that reality. >> Now, I know we're still in the caricature of Marks, >> but when when we look at that, are you and I on the same page about that, or do you go ahead? >> Similar. Similar. I mean I um I as well as studying marks I did a fair bit of study of socialist economies as well of course and the obvious failure in socialism was Russia okay the Soviet Union now when you look at why it failed this was actually most [clears throat] intelligently explored by a brilliant Hungarian economist called Yanos Cornai and Cornai was looking the Hungarians tried some various experiments Hungary and Yugoslavia both tried marketoriented socialism at various times they were aware that the Soviet system alone didn't work. But Cono's explanation for why Soviet system failed and the capitalist system succeeded relatively speaking, which is the opposite of what Marx expected and the opposite of what Lenon and Stalin and co thought would happen as well. Do you you remember the old do you remember the old or you don't remember you you're too young for that, but do you know of the Kruch of smashing his shoe on the on the table at the United Nations saying we will bury you? Okay. Do you remember? I don't know. I haven't heard that. Okay. Stalin uh whee when he when he deposed Stalin speaking at the United Nations one day and literally took his shoe off to pound the table and make a point and he's saying we will bury you. Now what he meant was we will bury you in consumer goods because the attitude the Soviets had was if they focus on building what they call the means of production and and make building the machinery that makes consumer goods the first priority and that consumer goods happen as a sort of afterthought. The increase in number of machines will cause a dramatic increase in in production and that'll mean that workers in the east get so much better than workers in the west get and people will be you know clamoring to come into the socialist countries. Well that was a complete failure obviously. Now what actually happened was as Corno said the um socialist economies that Russia was a was Russia was still a peasant society. It was still a feudal system when the Soviets took over in 1917. You still had people who were surfs bonded to the land. What that meant was that to develop the country, and that's what the Bolsheviks tried to do, every sector deserved investment goods. Therefore, every sector got less investment goods than it needed. And so, every you have this like a single factory making motorbikes and a single factory making cars and so on. They all got less resources than they needed to actually meet their five-year plan. So, the best way to meet the five-year plan was to make last year's model. Don't innovate. Okay? And I'll give you my little funny example of that. I had a my first girlfriend's brother uh wanted to buy a 650cc motorbike. This is back when I was 20, okay? Wanted to buy a um a um or 22. He wanted to buy a 650cc and he couldn't afford a Honda, let alone a a hog, you know. So, he found he could buy a Russian motorbike called the called a Cosac for $650 Australian dollars, literally a dollar per cc. It arrived in a in a in a wooden box. We took the wooden crate apart. We then found a whole bunch of oil soaked rags. Took those off the machine and there on the on the wooden pallet below in all its splendor was a 1942 BMW. Okay. No innovation for 30 years. Um so this is how what this is what led to the failure of the Soviet system. [clears throat] They didn't encourage technological innovation for consumer goods whereas the west did of course encourage. So what what corno said is the socialist system is supply constrained. All these sectors need more inputs than they're getting. They've all got less. Therefore, the best way to cope is not to innovate and therefore you grow no faster than population because there's no technological change going on. Whereas capitalist uh firms are demand constrained. You have numerous companies all competing into the same market with differentiated products. They're all trying to take sales away from their rivals. Therefore, they all have excess capacity. They need the excess capacity to be able to expand into a growing market. So that's one reason why you have excess capacity. Another is without excess capacity, you can't take advantage of mistakes that your competitors make. So in this situation, you're trying to innovate and take demand away from your rivals. And the best way to do that is to innovate. So capitalism leads to a higher rate of innovation. And that's why capitalism grew more rapidly than socialism for that time period into the collapse of the Soviets. We're going to talk to China in a bit more detail later, but I think China learned that lesson. So what they've got if the state sector provides the longived uh facilities that benefit all different parts of a capitalist economy economy in general and and that therefore that's that reduces the cost of starting a business. You've got educated workers, you've got health systems for them, you've got cheap transport to get them from their home to your factory and so on. The state does that stuff and then in the in the uh goods producing let competition rip. And it isn't just between firms, it's also between um provinces in China. So I think there's about 20 or 30 provinces and each of the provinces is competing to be a dominant in some particular segment. The local government's providing funding. There's 130 120 130 car companies in China right now. So there's a they've managed to combine the best of capitalism with the best of socialism. the state provides the longived stuff and make sure that the costs of things like power are much lower than they are in the west and the power is available. Uh where you if if you're a private company providing it, you'd only provide as much power as you made a profit out of. The Chinese just build power stations period. Huge capacity that way. But at the same time, they're competing like crazy in the consumer goods. So to me, it's not a case of socialism or capitalism is better. There's a ying and yang between those two approaches. a longived not trying to make a profit but providing resources that everybody needs in a sophisticated society with at the same time the rampant competition for consumer goods. >> Okay. Uh it's very clear and China is a fascinating example which we'll definitely spend more time on. Um but right now I want to transition from caricature of marks to the marks that you see that has not made it into the public consciousness. And I want to start with you said this is really the best of when speaking about China this is the best of capitalism and the best of socialism. Now as I've researched socialism I realize uh Markx never talks about socialism. He talks about communism >> and um it was Lenin that said I've got to explain to people what this intermediary step is that we have to go through in order to get to um communism and I'm going to call it socialism. And so then people grab onto that and it it becomes this whole thing. But like right now in public discourse, there's a debate of like I don't think people really take the time to stop and almost follow the etmology of these words to to get a grounding. But when you do that, you you realize what I just said. And then um what ends up being the debate here in America, and for people that don't know, you're Australian and I think you live in the Netherlands. So, a different frame of reference maybe than some things you're going to hear me say, but you know, I hear people trying to use what I will say is socialism as a disguise. Uh, because communism, at least here in the west, is understood as that didn't work. And so, um, I think this is really a question of centralized versus decentralized. And so um that is my thrust as you and I talk is I'm saying when you >> agreed some things will be centralized under the government. This is why I'm not libertarian. But the vast majority of things will not and the great evil the thing that we need to be very afraid of is and this is my thesis is this centralization. And so when I look at Markx, what I want to understand is in the real Markx um is he looking for a centralizing force or is he looking for a decentralizing force? And do you believe that our current modern western economy would be in better shape if we followed whatever Marx's prognostication is? Markx was more of a critic of capitalism than he was an architect of socialism as you've already said. So there's very little discussion of what a socialist economy would be like. And his idea of communism was basically a almost a poetic fantasy like a future world in which his definition of communism was from each according to their ability to each according to their needs. Okay? So there's no hierarchy [snorts] in the whole system. But he really didn't. It wasn't Marx who came up with the ideas of socialism. In fact, if you look at what Markx was arguing for, we pretty much call it social democracy today. He wanted universal education. He wanted universal healthcare. You'll find comments like that inside there. Most sophisticated societies, and I do not think America's sophisticated society on that front, have those elements. You've got public health, you've got public education. Uh, and that means that you provide a sort of base standard of living for everybody. And then if you want to rise above that, you've got to become a capitalist. That sort of thing. So um it it's it's a like having read everything Markx wrote in economics which I did for my my original master's thesis I I find the actual discussions of him might as well have been written by Walt Disney when he had when he accidentally swallowed some marijuana. It's got made me masculine. It's it's got no relevance whatsoever to what Markx actually said. >> Okay. So what is when when I hear the um from each according to their abilities to each according to their needs, I hear a um naive person that's accidentally swallowed marijuana or maybe like that that feels so detached from what is ever going to be true given the nature of the human mind that I'm just like, "Yeah, you you can throw that out." So this is where >> and I've already confessed, but I'll state again. I've not read very much Markx directly. >> Um, and part of it is because for me just hearing that I'm like this guy's a utopian. He he's not connected to reality. So whatever he says is going to be trash. So what's the thing that like did he caveat and say, "Oh, this is just my fantasy, but it's not actually what we build towards." Or was he actually trying to build towards that? >> Well, he there was an elements of Marxer fantasy because he started out as a poet and a philosopher, not as an economist. Okay. his his first original writings were poems to Jenny von West Halen. Okay. So we we have to put the guy as a human being and that's something that we read all these economists from you know from Aristotle forward frankly I tend to say what what's their emotional and and and personal situations to explain some of the arguments they come up with. Um so he he was really his main interest was how do I understand capitalism. It wasn't about what's the old the he thought he could ask better go back a bit the 19th century we we talk about it you know and what's your image of the 19th century for most people it tends to be cowboys you know westerns that sort of thing but if you look at the state of life in England in the 19th century then my picture of the 19th century England is Kolkata 30 years ago because you had open tanneries everywhere you had people sleeping next to the machines they were working in and to give give you an idea of how severe conditions were in in London at the time. Markx and his family left Chelsea because of a colera epidemic. Okay. So the level of the standard of living of most workers was extremely savage in that period and it was actually a decline in the standard of living from what they had under feudalism because one of the elements of of UK feudalism it's not the same around the whole world but one element that applies in the UK was after the black death uh of course the population fell by 50%. uh the peasants had a bit more bargaining power in that situation and the king passed a law the law passed in I think in about 1500 that a a surf could have no less than 4 acres of land to work themselves. Now if you have 4 acres of land in England that's you know sufficient to live moderately comfortably uh you have to work on the on the on the lord's land as well but you have that security of the feudal system along comes capitalism what's called the enclosure movement occurs all the would be capitalist farmers who often as it were originally feudal landlords start enclosing the land and driving the the surfs off creating a class of landless laborers. Now they became the input to the factory system and it was a savage world. It was a highly polluted uh world at the time. The pollution we put up with this today is trivial compared to what occurred in industrial sites in 19th century UK. You had people you had child labor uh on a grand scale. Uh you had women working in uh massive factories having to work and sleep next to their machines. This is the world that Markx wrote in. It's and so when what we tend to do is we look at our current situation and say Marx isn't describing that. Of course he's not. He's describing something 150 years earlier coming out of a feudal system where in the transition the work has got done very badly and therefore there's a huge number of socialist movements at the time Marx was writing and his intention was to make the socialism more scientific rather than utopian. Okay. So you have you ever eaten Cadbury's chocolate? Yep. [snorts] >> Okay. Cadbury's was a socialist firm. Okay. The Cadbury family wanted to create a sort of worker utopia where the workers shared in the profits that were being made. You've got various elements of worker cooperative farm firms still around the world. So that was what Markx called utopian socialism and he was trying to create what he called scientific socialism to say well socialism has to happen because of these forces I've identified in the economy. Um and that's what he what he stuck himself to. But he was really 99% intellectual, less than 1% activist in that sense. So we tend to think Marx is out there trying to create socialism. He was involved in socialist debates. So things like the the first the first and second and third and fourth international and the fights he had with anarchists and all this sort of stuff. But fundamentally he was an academic reading other academics trying to explain capitalism. [snorts] >> Okay. So now we've got modern capitalism. >> Um [clears throat] I'm looking at it and I will say that here in the US my estimate is that capitalism is um our our economy is desperately broken and we are in a very uh fragile time and I'm wondering one do you agree with that statement? And if you do, is there anything that Markx has taught you that should be directly applied to the modern economy or is he only interesting as a sort of philosopher or historian? Well, I I think when when you take the approach to Marx that I found in him, which he then suppressed because it undermined the labor theory of value and the argument that socialism was inevitable, I think that insight he had was actually the best possible foundation for understanding capitalism. So I I I start from that what I call dialectical philosophy that you can find in Markx uh and use that as a foundation for understanding capitalism. Uh it's it's >> okay. So this is where we're going to have to get into equilibrium >> partially. I mean the the the mainstream economists are obsessed with the idea that capitalism reaches equilibrium. Okay, which is a state in which nobody wishes to make a change wishes to change their current behavior. That's that's the way they define equilibrium. That's the last thing if you if you had if somebody hopped off um and landed on the planet Earth and said what do they see? They wouldn't see equilibrium. They see evolution and change. And we need a theory of economics that's based on evolution and change. And as it happens, Markx provides a foundation for that. It wasn't something that is he developed properly because he was still trying to prove socialism was inevitable and his followers are far worse. uh but I I think he's part of the way in which we can understand a complex society like the way you were describing earlier. >> You didn't say whether you agree with my assessment that the west largely from an uh economy standpoint is not a fragile place. >> I I think it's beyond fragile. >> Okay, perfect. So we both agree that we're in trouble right now. Y >> does Markx offer an insight that tells us like what the Fed should do or is it just that that's not at all the layer of analysis? Well, you can get to the stage where you say what the Fed should do and the Fed should stop fiddling with interest rates is one of my conclusions that comes out of my own approach to economics which you know I can drag back to Markx. But Marks for examp what Markx really complained about was having an excessively financialized economy. uh one of the most uh potent posts I have ever wrote back back before I uh before the global financial after the global financial crisis I called the roving cavaliers of credit and that's a phrase from Markx where he said uh economic booms and busts can give an opportunity for uh the financial the the banking sector and the parasites that hang off them to take over real production and he says this gang knows nothing about production and should have nothing to do with it. So he was against a highly financialized economy. He wanted to have one dominated by the industrial sector and have the financial sector as servant to the industrial sector. Now what we've enabled to happen in the last 50 years, the financial sector runs everything. And I think what Mark saw and said that that is going to be a catastrophic mistake because what you'll have is far too much private debt uh bms and busts caused by people speculating on on assets like houses and shares. This is an unproductive economy. you need to tame the financial sector and put it back in its box and make it a servant of the industrial sector, not the master. So, that's one thing that Markx would say, and I'm 100% in support. The financial sector is far too big. There's far too much private debt. Uh, and banks don't provide money for entrepreneurs. They provide it for speculation on house prices and speculation on shares, which is an unproductive, destructive use of the capacity to create money. >> Why is that? Why is that unproductive? Oh, because you're gambling on secondhand assets. Okay, you can't get rich selling secondhand houses to each other. You can't all get rich selling secondhand shares to each other. What you want is people building new houses. You want people making new products and the share market is in terms of creating cap, you know, financial capital to enable uh investment to take place. It does some of that, but the vast majority of activity on the stock market is what Kanes called a casino. And again a remark from Kanes which is very compatible with Markx. He said when the industrial development of an economy is dependent upon the activities of a casino the job is likely to be all done. And I think that's in the situation we are. Everything's about can you make a can you can you sell your assets for a profit? Uh can you you know buy buy a rising asset and sell as it goes up. This just leads to financial booms and busts. And we've had far more of those uh in since the 1970s than we had uh in the pre-war in the post-war period up to that stage because the level of private debt and the strength of the financial sector is so much greater now than it was after World War II. >> Okay. I want to I want to make sure that we understand your read of the mechanism of how these booms and busts come about. Is it that okay, we've turned um by letting people bet up or down like hey this thing is going to go down and I'm going to make money when it goes down. That kind of casino like behavior >> does that become a problem because the businesses become a servant to their share price or um is there some other mechanism by which that actually breaks things? >> Well, the main thing is people are you're not building your machinery not making new factories with that borrowed money. Okay, you borrow money from a if you borrow money from a bank and use it as working capital for your company, then that's going to produce goods and services and the sale of the goods and services will find service the debt you have to pay interest on. But if you're borrowing the money to go and buy shares, okay, then and you're hoping the shares will rise in price, then what you're doing is you're taking a lever bet on the share market. Okay? And the scale of the lever bet is what actually causes the ups and downs of the stock market. So you end up borrowing money, gambling of the pri the share price is going to rise. But the only way the price will rise is if somebody borrows more money than you did to buy those shares off you. And so we get >> why why does that matter in the real economy? So if you've got a bunch of buffoons that want to gamble their money and they want to put themselves in debt, whatever, let them do that. Why is why does that end up causing a boom and bust? >> For a start, because it's not making any productive uh [snorts] facilities. you're buying secondhand shares off somebody else's borrowed money. You haven't created the capacity to make goods and services to finance that those share prices. So, we get ridiculous bubbles like we've got in the stock market right now. You know, a 40 to1 ratio between, you know, the Venos Oilers's CA cape index their cyclically adjusted price to earnings ratio. Huge bubbles coming out of that all driven by margin debt. >> So, but why? So I I'll walk through what I think is the mechanism. You tell me if you think this is correct. >> Um the reason that when you overfinancialize a market, it actually builds booms and busts is you've got people bringing on all this money. They are chasing a finite supply. It's not um it's not like stuck. You can always issue more shares, but it's a a relatively finite supply of companies that people have belief are going to go up. And so like with AI right now, you get all this money that's pouring in. you have a historical uh cape ratio that's like 16 to1. We're now at like 40 to1 or something. And so for people that don't know the cape ratio, it's like how profitable have they been for the last 10 years. And so uh you get a rough idea. Oh, okay. Like um if 16 to1 is a reasonable price for something and I'm at 40 to1, odds are that this has just become completely detached and this is really about gambling dollars coming in driving the price up and the fundamentals of the business no longer justify that price. Okay, but the economy hasn't broken yet. So now create this big bubble in that it's overinflated. There's way more money chasing these shares than should be that bursts. Now the reason I think mechanistically this ends up hurting the economy is because now that company whose share price just plummeted based on psychological factors of people getting wiped out. So they're everybody's now afraid. They were doing it on margin. So they got margin called. So now, not only do they not have the asset anymore because that was seized, >> um, they may also be in like massive negative debt. So now that company that might need capital to grow and has been using the capital brought to them by these gamblers to keep their stock, something that they could sell to generate money, that now goes away. Now, as all those people lost money, they're not paying um, if they have employees, they're not paying their employees because they're not broke. They're not spending money in the economy because they're now broke. And so everybody and there's fear. And so everything just now contracts. People get laid off. There are people outside of the workforce. And that's how a boom creates a bust. Do you agree that's the mechanism? >> Yeah, pretty much. And I can if you like I can actually show the share the screen and show you information on the margin debt versus the S&P 500. Sure. >> Which might might be of interest. So this is in my Ravvel software. So the cyclically adjusted price to earnings ratio. As you said, its average is about 14 to 16. Uh this is its low point back in the uh 1970s. And you've got this huge valuation in 2000. Another huge valuation now. So that's the cyclically adjusted price to earnings ratio. This is margin debt as a percentage of GDP. Now I was literally I fell off my chair when I first plotted this because I knew margin debt was big during the 1920s. I had no idea it reached 9% of GDP. Okay? And that was back in the days when margin debt was a 10 to1 ratio. So you could by did a margin loan, you put down $100,000 and bought a million dollars worth of shares. >> And then if the shares got by 10%, you doubled your money. But if they fell by 10%, you were wiped out. And that's what of course happened on October 1929. You see the huge plunge here. Then we had a whole period from the 50s through to the 80s pretty much where margin debt was relatively trivial only about half a percent of GDP most of the time and then after the Allen Greenspan put hit we go up to yet more bubbles we've restricted the level of leverage is now only 2:1 but now we have margin debt I think the most recent data goes up to about I think about 4% of GDP so that's the amount of pe money people are borrowing to speculate on share prices. Now, my argument is that change in margin debt causes change in the cyclically adjusted price to earnings ratio. And again, when I plotted this the first time, I fell off my chair because I did expect to get a strong correlation. I didn't expect the correlation between margin debt, change in margin debt, and change in the cape to be 08 over,200 data points over 100 years of data. >> What What is it that makes those um mechanistically connected? Because people are borrowing money to buy the shares. The price they're paying for the shares is leave it up by the amount of money they're using. If they just use their own money, like in back in the in in the current times, you'd be able to put $10,000 into shares. Instead, you put 20,000 or 20 million. You're leaving up >> So, let me let me say it another way and see if I'm understanding this correct. Um, so what you're showing is that the amount of money available based on how much debt people can take on is inflationary. So it's just pushing the cost. >> It causes asset prices to rise. And the fundamental thing the private se private banking system is doing these days is causing asset price bubbles. We had the subprime bubble of course with houses back in 2000 to 2007. All you got was more expensive houses. Now more expensive houses don't create smarter kids. Okay? It it is is a it is a totally useless in that sense. It looks great. You you think you're worth a lot. Your house is worth a fortune. but it's only worth a fortune if you can sell it to somebody else who borrows more money than you do to buy it. So, we get caught up in this artificial bubble and then it has to crash because you're adding to the debt of the economy, you're not adding to the productive capability of the economy at the same time, >> which feels a little untrue. So, um here's how I would look at that. Tell me where I'm going wrong. So, if I'm a public company and there is all this money slloshing around in the system due to debt, I'm able to sell my shares basically at a moment's notice if I'm in a hot industry like AI and it becomes trivial for me to raise hundreds of millions of dollars. Um, if I'm a known entity, I can probably just raise it by selling my shares. Uh, if I'm not, I'm going to raise it from um capitalists that see that I can go public and they're going to be able to get their money back. So that mechanism allows for companies to have easy access to capital so that they can do all the things that they want to do. Um so from that perspective I look at the stock market and I say okay it's prone to booms and busts. There's no doubt about that. However it's a modern miracle. Now where it starts to get dicey for me is when you allow people to um bet against something. So now people can get rewarded for things going poorly. That starts to um derange things from tying back to what you said, which is, hey, when that capital is letting the business do something productive, we're good. But now, if on margin you're betting against something, that's deranging. But the mere fact that you have money, a lot of money flowing into the system in a financialized way on debt doesn't have to be problematic. It's just we've let the casino get so crazy betting up, down, left, right. It that becomes the problem. Does that >> gambling is capitalism become a gambling system. It should be a creative system. >> It's always going to be gambling because >> Yeah. Yeah. Sorry. >> No, please. >> Well, gambling there's there's a difference between speculation and investment. And we've tended to confuse the two. Okay. People buy shares and they think they're investors. They're not investors. They're speculators. they're gambling, the price is going to go up or down. An investor makes companies. An investor makes goods and services. We need an economy based around that being what we really focus upon and reduce the uh the status of speculation. But instead, we've exalted speculation and we've let banks finance speculation rather than financing actual investment. So, if you go back to the 50s and 60s, a major form of bank of bank lending was for what they call lines of credit. And lines of credit are like credit cards for companies. So a company like MG like General Motors would have you know a billion dollar or more credit line of credit meaning that if if it wanted to expand output or wanted to had to pay a higher price for uh oil or for the workers and so on it simply accessed its corporate credit card to enable that to be done. And that's a productive use of bank money. You give people money that they can uh access to money that they can use to expand their business. And I'd rather see banks doing that. What we can get is that now they finance people that gamble on house prices and gamble on share prices. And that's got bugger all to do with investment and building a real economy. So I I think we let the finance sector gets far too strong and far too powerful. And we spend our time g speculating over you know arguing over speculation rather than getting investment done. So the private credit thing um with Blue Owl uh really struggling um Black Rockck has stopped people from taking money out. There's there's some crisis looming there. But is that functionally is that one person who already has the money loaning to another and so it's non accretive. There's no money being created. Is it is that true first of all and then is that going to offer some protections or is there banking involved where money is actually being created? >> I think there's both. I mean again I don't know because you can't get the data on this but it would have started off as original you know pooling money you know in extremely cashrich companies like Microsoft and Google and so on and then using that as an alternative investment source. But when AI came along and the scale of spending and the banks can see profit in this and this is one of the dangers u once there's a famous Australian ex-politician who once said never stand between a buck a banker and a bucket of money okay uh and they all tend to get involved in in fads they're all they all will look at each other and say what you haven't lent to an AI company oh there's something wrong with you we won't invite you to the next drink session so there's a tendency for hurting in the banks as well in how they finance things like this. But I I think that the AI bubble is extreme. Even if it wasn't being financed by money creation, it's still got this extreme scale that the level of overinvestment that's occurred because in a in a capitalist economy, when the new technology comes along, everybody thinks they're going to be the winner. >> So what you get is massive overinvestment. And the scale of overinvestment in AI appears to be on the scale of 10 times what it actually will probably settle down to because the revenue of these firms is about onetenth their costs. Now you can't maintain that is just an enormous gap. So on that basis I expect most of these companies to fail and it's quite possibly Chinese companies will come up winning against Americans with you know lower cost versions of the same. So I I think the AI bubble and bust uh the bust is going to be extreme and even on its own it would have caused a recession for America let alone on top of what's happening with uh Iran and uh and the other elements of madness in the American economy. >> So how deep are we recession? Are we depression? Are we two years? Are we 10 years? What's your your sense? I I think a recession not depression from the AI side of things alone, but it's not the only issue that's a challenge for the American economy. And I'd give it in the next one or two years. I simply can't see these firms, even with the cash buffers they've got, sustaining, you know, 90% losses, you know, revenue of re revenue of one and cost of 10. Uh you simply can't sustain that indefinitely. So at some point there's going to have to be an increase in the cost of the tokens uh or or or a lowcost rival is going to come through and take over the market that everybody else thought they could do with high cost data centers and so on. So I saw somebody I'm not an expert on the on the whole AI area. Uh I've not acknowledged that to begin with, but I saw one person saying a lot of these data centers are going to turn into pickle ball courts. O [laughter] god, that would be rough. That would be very bad. I would not like that at all. >> Okay, so that's wild. Now, in my audience right now is going to be thinking, Tom, Tom, you've got to ask this guy, how does he invest his money? Now, I know the punchline. But, uh, >> I don't tell. That's right. >> People are not going to believe you, but walk us through why not. >> A lot of reasons. too many marriages doesn't do good for your investment uh capability. Um and I've never been a speculator. I've always been skep I've always been skeptical of speculation. Look, I've tried to start a couple of businesses uh that and I'm doing another one now. So, I'm willing to invest in that sense, but gambling on share prices and stuff like that because I know it's gambling. Uh I have a very negative attitude to gambling in general. Uh and that means that because I see this as is not investment but gambling and speculation. uh I've stayed away from it and that is potentially a mistake. For example, two people I used to know quite well were Max Kaiser and and Stacy Herbert. They were trying to persuade me to buy Bitcoin or what was about two quid of Bitcoin. I could have bought 500, not even noticed it, but because they explained the energy stuff. I didn't do it. That was a mistake. I've got to confess. Okay, I wish I'd written that bubble. But I've stayed away from bubbles deliberately. And some of my friends have said, "Why don't I use my ideas to try and make money out of the bubble?" But I said if I do that, I wouldn't have the ideas. >> I'd be so focused on what's happening to the shares I've purchased that I wouldn't be trying to reason through the whole dynamic of the economy. >> Yeah. Yeah. It's really interesting people that that are drawn to the just core understanding of something. Um I'm I'm in a slightly different position in that so I generated all my money through um actually building businesses and then realized oh wait a second as I grew to understand inflation I was like hold on I have to invest and so I feel like this real push to like if I don't figure out how to invest my money it's going to be taken via inflation. Um and so my approach has been all right you have an obligation to the family uh to solve for this problem. So my earliest understanding, the very first time in my 20s when somebody tried to explain the stock market to me, I was like, "Oh, this is gambling." And they're like, "No, don't be so ridiculous." And I was like, "But unless I own stocks that pay me a dividend, this is just me betting that the price is going to go up. I don't see how this isn't baseball cards, Pokemon cards, uh, gambling, like it it just is." Um, but I was able to get my head around that. But okay, you don't invest. That's wild. Um, one thing I do, Steve, I'm I'm very intrigued by how much you and I see the world the same. I wasn't sure coming into this if you and I were gonna kung fu fight for 90 minutes or uh what it was going to look like. When I look at America, and totally understand you didn't grow up in America and so maybe this stuff is less familiar. Um but the thing that I admire about the American system is that um it is constructed with a deep understanding of man's tendency towards tyranny and that you have to create checks and balances to make sure that you can never have a mau. Uh and so Daniel, >> what's happened then? What's gone wrong? Well, so that's where um you and I will differ in that um I am certainly not a fan of Trump. Um but when if I'm asked to choose between Trump and somebody who I think is headed in a socialist direction, I'm going to take Trump every day. And the way that I explain it to people is um he's terrible. He's corrupt. uh but for him to win in the system he has to create a system that people can also win inside of. So he can't create a system in isolation that only serves him. So he's creating a if at least if you understand assets you're going to be able to get ahead. Um, I also think he has the right read on the need for us to return to a Hamiltonian stance of being protectionist enough that we stop letting our manufacturing base be hollowed out by China. >> Yeah, there's there's some there's some things I would definitely agree Trump's gut reactions are more sensible. Okay. And then obviously I'm I'm a critic of free trade and I'm an intellectual critic of free as well as as well as an empirical critic of free trade. So Trump picks up on good stuff like that and he's quite okay. But I mean, I you want to I I want to see the guy removed. Okay, we're going to differ on that front. I think he's absolutely corrupt and he's damaging American society in massive ways as well as America's military situation and social cohesion as well. So, I had a look at section 25. Have you had a look at section 25 of the Constitution? >> I know of it. I I haven't read 25, but >> read it. Read it. You'll be horrified. Okay. Two reasons. One is the people who are given the power to remove Trump are the people Trump has appointed. Okay, the 15 members of the I think it's 15 ma major ministries all have to vote to tell the congress that they want the president removed. But the next stage of it and this reflects the historical period when the constitution was drafted. The president the the vice president becomes the acting president. The next paragraph says the president can write to congress and say I'm okay. I can take over again. So the next act after the acting the vice president becomes the acting president is the president can overall what the acting president has done and get back to being president again. And then you've got to have a 3-week period where Congress comes together and has to vote whether they let the president continue or not. That's never going to happen. You've got a system to remove a tyrant that can't remove a tyrant. >> So what I will say to that is you have a system where you can't remove a tyrant for four years but then you can elect them and boot them out. Um, and the thing that scares me right now, the thing that I'm animated by is the DSA, their actual platform is to abolish the Senate. And so they're trying Go ahead. >> Sorry, I'm just smiling. But the D How many votes does the DSA get? >> Well, they keep winning primaries. So the thing that I always >> You mean the Democrat? You mean the Democrats? Do you mean the DSA? I thought you mean the Democratic Socialist of America. Like a little >> Democratic Socialist of America. So >> that's not the Democrats, though. Well, they're they run under the Democrat um banner. So, they compete against Democrats because we have a two-party system in terms of the way that our election cycles work. It's going to be a Democrat versus a Republican. >> So, now the DSA goes under that banner. So, that's really the energy of the party. That's going to be the thing that we have to battle here in America is are we going to skew more in that direction or are we going to skew more in the direction of um what I'll say is traditional American values. So that's going to be the thing that plays out here. Now, when I originally started researching you, it was just like um at a headline level, I'm like, "Oh, I'm going to disagree with this guy." And then I would actually listen to what you said and be like, hm, that's [clears throat] actually uh I think something I have to add to my mental model. So you do a very good job of um reconnecting back to the ground. So I I'm not super fussed that at a philosophical level we may see things differently. Yeah. Um I think both of us are trying to get back to the grounded cause and effect is what I always say. I'm I'm just trying to find the cause and effect here. Um, now >> once you get into the philosophy of it all, what I call frame of reference, everybody's locked in a frame of reference. Yeah. My thing is, um, I don't want to be emperor. I don't want to be the person everybody has to listen to. I don't trust myself enough to be right all the time. So, I'm very grateful that we have a system that um, has checks and balances against that. And so anyway, my my thing is I have that fear of the the top down. Um you I think are less inclined to have that fear given what you were just saying about China because I agree China's outperformed us for the last I don't know call it 20 years and don't deny that at all still would not make that trade and the I'll be interested to get your feedback on this statement. So when I look at America, what I see is the biggest problems that we have are the betrayals of our own actual principles. >> And so if you go back to the founding fathers who are like, "Okay, we're going to have a central bank, but we've got a ticking clock on it. It was only like whatever 19 20 years. It's going to expire after that. Um we're going to be focused more on sound money. Um, we're creating a checks and balances system so that we don't end up in a place where uh we have somebody that gets tyrant status. We understand that we need to protect individual freedoms largely because we don't know what's going to work and what's not going to work. That's why we have a federal system. You can have now 50 different experiments running and people can vote with their feet. It's like everything designed around the better parts of capitalism. I agree with you on the problems of the hyper financialization that we let our manufacturing base get gutted. So there are things that we've done that um I would say violate those principles. Take healthcare. Um so we spend a fortune on it. So we definitely don't have a we're not willing to spend money. We're willing to spend money but the setup that we have same with student loans is the government guarantees things which creates a disturbance in the actual like price mechanism. So banks alone to people to go to school for things that are never going to make that money back. And so now you get yourself into very weird situations where that that would be that on education, but on healthcare you get, hey, we're spending a ton of money, but we're getting terrible outcomes because people are basically um they know the government is going to pay for that service. So there's no incentive. >> I don't know. That's that's that's not what I see as America's problem at all. You've got to pay an absolute fortune for healthare in America. You don't get healthare unless you've got a a company that's giving you healthare. You don't get public health. Uh whereas in the rest of the world, I mean, I I saw a wonderful little joke on Twitter saying uh public health is so difficult that and public education is so difficult that only 32 of the world's 33 advanced economies have managed to develop those systems. The exception of course is America. You have incredibly expensive private health and incredibly expensive largely private education and people move between ones. I' I've had friends move from one location in Atlanta to another uh to get close to a better school and pay the higher rates that are involved and so on. And the the local rates pay for the education. So you get the again the best education money can buy. Now the attitude of Germany for example and Germany is by no means a country I hold up as a effective example alternative example to America. But the German education system is free. It's hard to get into university. You've got to get good marks. You can be failed etc etc but you can't buy your way in. uh in the west and it this happens in Australia it happened in America and UK as well when you start charging student fees students think they've earned they've bought their education they expect to be given a degree and you get a dumbing down coming out of that and the the education ends up costing the students a fortune they graduated with huge amounts of student debt locking them in very very badly so there I I think there are you you you've got America's done a very bad job of saying what should be paid publicly and what should be paid privately. And if you compare it to other capitalist nations, you find the balance between the state providing generic stuff everybody gets access to where you can't buy your way in and therefore you've got to compete your way in with your brains rather than your dollars. That gives you a better quality of education and a better quality of health. So I think America really has to get a better balance between the public and private sectors and it's not going in that direction. Everything ends up being in America about how we need to privatize and individualize. You've got such a heavy-handed ideology on that front that you can't see there's also a need to provide stuff at a public level uh because for many reasons often the public sector is better at providing those things uh because it's not trying to make a profit out of them. is simply trying to make sure you have an educated workforce. And we're in America. Yeah. You get an educated workforce if you could have if you got the money to pay for the education. And when you look at the success of America, um, do you attribute that to just lucky timing, good geography, or do you grant anything to the national experiment that we're running about basically the individual um is self-governing in the sense that we don't have a king, we don't have a a supreme leader, we don't have a Xinping. Like this is we're going to have to elect. We're going to have to pay attention. We're going to have to make sure that we get good uh people in office. Um do you think that America's success has anything to do with our setup? >> Uh yes it does. Okay. I'm not going to argue that it doesn't. But I think your setup is much more flawed than most people most Americans realize. That's why I made the comment about you've got the best politicians money can buy. Okay. Your election campaigns are so expensive that people get bought by their financial supporters and they end up doing what their financial supporters want in office. and basically the harvesting votes to get there. So you get this, you know, you I can 100% guarantee we both agree the next president of America will be the Republican or a Democrat. Now, you can't say that in most of the rest of the world because they don't have the same massive private funding of uh of electoral campaigns. uh and and they don't have that dominance of having to buy get the money to be able to become politically obvious in the first instance. So I think America's gone too far in privatizing everything. Election campaigns are something that should be funded 100% by government money and private donations should be banned. Not even possible. Set it up in such a way that you guarantee you can't buy your politicians. Whereas you've got a system where you can buy your politicians. And I think you'll see the results of that. >> Yeah. On that one, you're not going to hear any argument from me whatsoever. Um, when I think about like if you take education, my beef with the way that we do education is we're not letting market forces dictate that. If you guarantee the loans as the government, then people are going to take those loans and they're going to the schools, >> the government should pay 100%. There should be no need to borrow money to go to a university or a school. >> And so you would just use what? merit-based testing or you would say >> absolutely >> merit based testing. I mean like I'm I'm an academic. I've been an academic for 30 years, okay, of my life and I was been in university for 50. And when I went to university as a student, Jesus Christ, you could get failed, okay? You do put a bad essay in, don't do enough work for the final exam, bang, you fail. You've got to repeat next year. Okay? Um these days, I mean, my my university, this is an English thing, they set a requirement. You have to give 92% first class honors results. >> What? That's >> when I I was just stunned by that. This is ridiculous and it's great inflation. And this comes out of the fact students think they've paid they paid a fee. They think they've bought their education. They get annoyed when they get failed. There's a tendency for the bureaucracy in universities to reduce standards to guarantee more passes because that increases the revenue for the university. So if you let money rule what's going on, you end up with a defun with a a perverted education system. It's better to make education based on what education is, which is intelligence and skill. And if you can't cut the mustard, you fail. You don't lose. >> I would love that. That that certainly isn't where we are culturally right now. But setting that aside, because there's one big thing that I want to make sure I get your take on, which is right now you've got Japan, we've got the um what I'll call the unwinding of the yen carry trade happening right now. When you look at that with your unique model of the certainly the US economy, the global economy, do you see danger signs coming from that? >> Not particularly. I think the again conventional economic thinking focuses upon public debt and ignores private debt and doesn't understand how private debt money or public money is created. So the paranoia that we have about the level of public debt tends to reflect what happens for a private individual that gets into too much debt. If you get into too much debt and you don't make enough money, you're going to go bankrupt and lose all your assets. That's a private sector outcome. When you look at the public sector, public sector doesn't borrow money. It creates it or it can create it. Uh and therefore it the so long as you're issuing bonds in your own currency. There's no problem for a government in servicing those bonds. The problem is when you run a trade deficit and then with a trade deficit you end up ultimately selling bonds in somebody else's currency and then you're in deep doodoo because you have to earn the export revenue to service that foreign debt. So that's what I see as the main danger. It's not the public deficit. In fact, I think my my argument is the government should run deficits. If governments don't run deficits, they don't create fiat money. So you have to run deficits and you have to uh do that on a regular basis. Every every country on the planet can spend more than it brings back a tax ocean. But at the global level, every country in the world can't run a trade surplus. So it's to me it's the trade deficit that's the limiting factor. Japan is think I think it's still running a trade surplus overall, but with the rise of China, it's likely to lose that surplus. So I wouldn't worry about Japan and its level of government debt until Japan has a large large trade deficit. Then I think it might be in trouble but not now. >> Okay. So one of the the pillars of my economic philosophy is that debt to GDP in a country um follows like a known trajectory and if you get over 130% debt to GDP if you stay there for call it 18 months roughly you're historically with the only exception of Japan you end up in open warfare revolt inside your country revolution full stage civil war something like that um I have a feeling that that does not ring true to or >> absolutely doesn't. I'm sorry. That's the one we are going to disagree on. Yeah. >> Please, I I'm only interested in knowing what's true. >> Yeah. It's the private debt that causes those booms and busts and the government debt goes up in response to it at a later point. And actually, I might just again, let's it's bring up a uh a little comparison there. >> So, can >> Yeah, >> given that c countries have to pay interest on the debt, how is it possible that you can just rack deficits up forever? they create the money. Okay, the government does not if you and I want to pay interest, we've got to earn the income. Okay, that's absolutely bottom line for a private individual. If your wage uh doesn't leave you enough to buy the goods and services to keep your family alive, plus pay interest on your mortgage, then you're going to not pay the interest. You accumulate more debt and at some times the bank will foreclose on you. So that's the situation for an individual who spends more than they get back in tax in income uh on a regular basis. But the government creates money by going into negative equity. The government when it spends more than it gets back in taxation actually creates money and it does the same thing when it pays interest. It creates the money. Now it can give too much to the financial sector and I think it's giving far too much to the financial sector at the moment. But there's no difficulty of the government creating that money in the first instance. Again, you've got to look at the accounting to understand this. >> Well, so I definitely understand the double entry bookkeeping. However, you do run into a situation where you've got um inflation to worry about. So, you can there's only so much money you can print before you start getting yourself into trouble because double entry bookkeeping insists that at some point it gets paid back so that they wipe each other out. But if you're just going in one direction, and this is where you're going to have to define for people how you calculate GDP because um I know you your model shows that it sort of levels off and it it just stays there. But the um when you look at the nominal dollars that you have to pay to keep up with the interest, it gets insane fast. Like we're already it's the second biggest line item in the US budget and it's just going and going and going. So um help me understand why even though I can print money why the inflation doesn't become a problem unless I annihilate some of the debt >> the inflation we have this attitude to money which comes out of Milton Friedman fundamentally that money causes inflation you Freriedman made that comment in an Indian conference inflation is always everywhere a monetary phenomenon when you look at the data and this again is I'm very much data driven you see that money the money system doesn't create inflation ation. It accommodates inflation and the main cause of increase in the money supply in America in the last 40 years has been private sector. The government money creation is feasible but the setup of the way the bonds are sold actually cancels most private most government money creation. So people automatically say government deficit causes inflation. Okay, that's the thinking people have. But when you look at the data, the government money creation has been close to zero for the last 40 years because the bond sales that banks make to the secondary bond market and now the fact that in non-banks can actually participate in your primary auctions, which is a crazy rule that America's allowed. Uh you end up canceling most of the government money creation. So there's excellent work by I have a colleague you may not have heard his name and his name is weird weirder than mine. and his name is Richard Vague. Ever heard of him? >> No. >> You would you'd enjoy talking to Richard? Very different person to me, but he's a he was a uh very successful banker in Texas. And then he got worried about the level of private debt we got at colleague we became colleagues because of that. He's done far better empirical work than I've managed to do uh on the money creation in America. And he concluded that between 2000 and 2024, 92% of the money created was created by the private sector, only 8% by the government. And when you look between 1980 and 2000, 140% of the money created was by the private sector. So government money activities actually didn't create money, they destroyed it across that time period. >> So um walk me through this again then. So right now we at a minimum we take on $2 trillion roughly uh in debt >> every year because we are running that deficit. >> Where is that money getting uh destroyed again? >> When when the when the government spends more than it takes back in taxation, it puts more money into private bank accounts than it takes out of them. >> Okay. So >> of but yes, >> it's it's the opposite of what textbooks will teach you. But you've worked out the logic that it's quite realistic. you get taxed out of your bank account that'll fall. The government spends on you that'll increase your bank account. Government spending increases your bank account. Taxation reduces it. If the government spends more than it takes back in taxation, it creates money, fiat money in private sector bank accounts. But then if the if those if the the government is then required by laws drafted by people who don't understand the monetary system to sell bonds equivalent to the deficit plus interest on existing bonds. Now those bonds are sold to the banking sector and the banking sector then onsells them to non-banks. Now when the banks buy those bonds that doesn't affect the money supply because what they do they they have reserves are created by the deficit. The banks use that that def that that funding to buy the bonds. It's an asset swap for the banks. There's no change in the amount of money. But if you let private individuals buy the bonds which is now happening in the American system then private people buy buy those bonds by running down their deposit accounts. So that the money supply falls. They get the bonds in compensation for their money supply going down. But sales of the bonds on the secondary market actually destroy money. And when you look at the scale of bond sale sales that now occur, it pretty much reverses government money creation. So most of the money being created in the last 45 years in the American economy has been created by the private sector, private lending. And what happens there is again that come back to the credit card example I gave earlier. uh when if you if you go to let's say you want to go and buy a you know a new set of microphones and you get there and find the price has doubled you swipe your credit card the increase in the price has caused your increase in the money supply it's the opposite causal direction that most people think when you realize that it's not just the government that can create money it's also the private sector so most of the inflation we've experienced has been caused by private money not by the government >> if you were saying that Listen, the um government deficit spending does increase the money supply. It's just that it's so minor compared to the private debt. I would understand, but I think you're saying something different, which is um that because governments can print money and the mechanisms by which that money gets into the system, that money is actually destroyed. And so despite the fact that the government is going to owe uh interest on that money, there's no problem and you can just rack up government debts until the end of time because it's actually creating fiat money which is stimulatory for the economy. Uh and given that it is a uh an element of GDP, you will actually hit a level where it doesn't keep increasing. But I don't understand how we haven't hit that level yet because we're at 10 whatever 23% and climbing. So it's like at what point does it stabilize and then are you saying that Ray Dallio who put this on my radar who has said you can audit every empire for the last 500 years and you will see over and over and over that when they hit 130% debt to GDP they will have internal strife that will end up creating so much bloodshed that they end up resetting their economy and that's that it always happens once you hit 130%. The only exception is Japan. So is he just wrong about that? Is there a me? >> Yes, he's wrong about it. >> Okay. So it's correlated, but they're in no way, shape, or form positive. >> Yeah, it's it's what government debt tends to be the band-aid we put on the what happens after a private sector bubble bursts. >> Okay. So private sector got out of hand. That's your real problem. Then the government comes in, prints the money uh through deficit spending in order to restimulate a flagging economy. >> Yeah. And I'll show another chart to put that in context if I can just do this now. Uh to share my screen again because this is long-term data on American private and public debt. >> So like we we people don't look past 1940. They go back to 1945 and don't look any earlier. Government debt's the red line and you can the black private debt is the red is the black line. So almost all the all the time private debt has almost always been higher than government debt. And then you can see >> when we look at the M2 money supply going up up up that's really private debt. >> Yes. Okay. And this this is the long-term pattern. Okay. This is data from the White House and from um the American Bureau of Statistics of this Census Bureau going back to that. You can see I've got the private debt data starting in 1817 I think. And what you find is the government is always trying to pay its debt down. Okay, this is a nobody likes being in debt. And this is a common because whether you're a individual or a company or a a government is not pleasant to have finance for debt. So the government tries to reduce its debt level and it does that. So you see the debt level for the government falling down here. Notice what's happening to the private debt. >> You get a boom and bust coming out of it. The worst example being what happened during the 1920s. So you had Calvin Kulage in charge. Kulage deliberately ran at 1% of GDP surplus every year and he was very proud of himself for having reduced government debt from 30% of GDP uh when he took office to about uh 20% when uh he left office. His final state of the union address was of course in the end of 1928 and he said this is this is what's caused the prosperity of the 1920s. We must maintain it. He completely ignored because everybody else ignored rising level of private debt and it was the crash in private debt that caused the great depression. Government spending rose at that time and if the government spending hadn't gone up you wouldn't have got out of the great depression. So we we we need we need a properly uh a properly integrated view of the financial system. >> So we we need a properly integrated Okay. So that means we need to be looking at private debt creation and destruction. >> Um okay so governments can and should uh deficit spend according to Steve King. >> Yep. >> Um and you Okay. So we've got moral hazard, we've got inflation. And you're saying it's not inflationary, not compared to what's going on in private credit. Now, at the very end of your the graph that we just had up, >> both private credit and government debt are spiked. Is there a problem when they're both that close together? >> Um, no. This I mean, this is more the response to what what CO did uh to increasing government spending. It was a dramatic increase in government spending when when CO hit because your basic people couldn't work. So [clears throat] quite a few Americans got a better paycheck from the government at that stage than they got from their own jobs. So the government spending but if that didn't happen, we would have had so many bankruptcies because of the lockdowns and the impact of a pandemic at the time. So that caused >> Don't you agree that doing that is the very thing that um caused people to be underwater now in terms of just making ends meet. um what the the the COVID stimulus or >> the COVID stimulus happening in a way that was designed to be spent at a time where goods had gone down in terms of availability. So now you have increased funds chasing fewer goods and that causes a ripple across the entire supply chain where prices go up and now you get into a stalemate because any one person that I'm just the nuts and bolts to that thing you buy. uh I'm not going to lower my price. Um and so there's 10 different people that you'd have to convince to lower their prices in order to bring that cost back down, but they're not going to because everybody's caught in this quagmire of well, I can only lower my prices if this guy that's supplying me the metal or whatever lowers his prices, but everybody's already raised. It's just too impossible. >> Yeah. What you what you want to avoid is a debt deflation. This this is the my focus of work is to show that the the real danger capitalism faces is a private debt crisis where everybody starts liquidating in the aftermath because of the private that's what Irving Fischer explained as his explanation where the great depression came from. So I'll I'll send you a copy of Fischer's work on you. I think you'd be fascinated by it. >> Before we move on to that and I bet you're right, but um let me just get a a direct answer. >> Is that not the reason that people are struggling right now? because the government printed so much money uh during COVID that now there's a 30% inflation that started running 6 years ago is now sort of complete and so now we're growing at a normal rate again 4ish% but that's why people feel impoverished. Uh, no. I think it's actually the change in the distribution of income in America over time that's making people feel impoverished. And the economy has been growing lower, slower since neocclassical economists took over in 75 than it was beforehand. [snorts] So, you've had a underperforming economy for 40 or 50 years and it's catching up with people and the only way out of it has been we said, you know, borrow money from the financial sector and speculate on house prices and you'll be you'll be wealth because your house price rises. I think it's what I think it's financialization of the economy that has led to people being in this desperate state, not uh not government spending at the time. Now, I'm not going to be defending all government spending. Obviously, I think you're spending far too much money on wars, okay? I think you'd be better off spending it on railways, uh, etc., etc., but again, we need an integrated view of all this and see how one's part of a complex system affects the rest. And there's such a strong tendency in America in general I find to try to have like a a black and white single line dimensionally more private is better more government is worse rather than seeing it as a complex system where you need to get a balance between different components of a system and that's the sort of economics I'm trying to develop and but generally it does end up saying that the government spending the the main function the government spending has is to avoid collapsing into a great depression and if you don't have you have a collapse of private debt >> when you have a collapse of private debt and that's what the great depression was all about the reason I mean pe people know of course the the new deal and things like that and they they would debate whether the new deal uh you know rescued the economy or or caused the downturn I see it as rescuing the economy but the new deal peaked the government spending being 5% of GDP the the deficit being 5% of GDP the deficit during co was 20% >> jeez basis. >> Okay. Now, it's this and and government spending in the 19th century used to be 2% of GDP. You didn't need tax income tax at the time because government spending was so low. Now it's 20%. Now, the fact that it was 2% in the 19th century is one reason why there was a financial crisis every 10 years or so. Booms and busts occurred all the time >> because the government wasn't there to smooth it out. >> Yeah. The government spending can give profits to firms which would lose money when there's a downturn. go negative. So the government spending smooths the thing out and as a result we haven't had we've had far less financial crisis since big government than we had beforehand. So you've again you've got to get the balance right. But when I look at it the the unilateral approach on getting small government which America's obsessed by is partly why you've got a more unstable system now than you had in the 40s and 50s. >> Steve, you are a fascinating economic mind. Uh I can tell this is going to be the beginning of our relationship. Yeah, >> I'm very eager to continue talking to you about this stuff. Um, tell people about your software. It's very interesting. >> Yeah, it's called Ravvel and I've watched it a couple of times for data analysis, but the main thing it's there for is dynamic non-equilibrium modeling of of of of systems in general, but it's specifically the economy. And the thing which is unique about Ravel is that I've made it I've created a system that lets you model the financial system using double entry bookkeeping. And that gives you that integrated view. I think we need to understand how the economy functions. I'm just about to we're trying to do a a final commercial uh push right now, a capital raise to raise about about a million dollars, which is all we really need to polish the product and go commercial, but we're still in the pre-commercial stage right now. But hopefully next week there'll be a website people can buy the software from. >> I love it, man. Well, may it be very successful. I'm excited for you. Thank you again for taking the time. Where can people follow you online? Uh, the best thing is my YouTube channel. That's Profsteve Keen at Profsteve Keen on YouTube. I also have a Patreon site and a Substack site and I'm now giving an online course through school and that's you go through that through website called steveken.com. It's it I I've got to change the nature of that site. I've just actually had to take over the management of it. So, it it it'll feel like a spam a scam to some extent. I apologize for that, but it does lead to courses with me that about 1,200 people have signed up for and it's a very enjoyable community. So, YouTube profane, Twitter, Prostste uh and the same for Substack and Patreon. >> I love it, brother. Again, thank you so much for taking the time, man. And uh I look forward to the next >> I'm looking forward to our next one, too, Tom. This it's a nice intellectual conversation to have with thoroughly enjoyed that. >> Awesome, man. I'm so glad. All right, everybody. If you have not already, be sure to subscribe. And until next time, my friends, be legendary. Take care. Peace. If you like this conversation, check out this episode to learn more. >> People really feel that the system doesn't work because it actually doesn't work. First of all, the stock market doesn't really have a whole lot to do with the economy. Anybody who's looks at the stock market and thinks it's [music] telling you something about the economy, you're you're being misled. So for the entire 20110s and it's a 2020