And of course, this discussion hasn’t yet mentioned the one thing that matters the most. The United States is a great democracy. China is not. The United States has unfettered freedom of speech. China does not. The United States allows anyone to do anything, talk to anyone, play with any new idea, start any company, sell any product, and pitch any service unless those things are specifically prohibited under the law. As Barack Obama’s extraordinary rise to power has demonstrated, any American citizen can become President. In China, none of these things are true. Back in the 1930s, when Stalin’s Great Purges were filling the Gulag, the Soviet economy grew at an astonishing pace, while the United States, stuck with the debris of its Great Depression, looked slow and creaking by comparison: but history would settle that particular contest with unarguable finality. Coercion works; autocracy works; repression, spies, informants, and secret police all work—but within limits. In another ten years or so, I reckon, China is going to reach those limits.
But enough of China and back to the home front.
For the most part, this book has presented a relentlessly negative picture. Almost wherever we’ve chosen to look, we’ve come across dumb governments, crazy spending, tax codes that make no sense, phony profits on Wall Street, bankers who get insanely rich from behavior that seems little better than fraudulent. But I’m an optimist. The disintegration of Planet Ponzi will be wrenchingly difficult, but is for the best. It’ll turn America—and Americans away from speculation, from debt addiction, from fiscal incontinence. The America that will emerge will have all the strengths we have today—the science, the companies, the innovation—but we’ll join to that the rigor and solidity that used to be ours. America has an ugly present, and a glorious, prosperous, and un-Ponzi-ish future. The same can be equally true of Britain, and of Europe. The future is in our hands.
Either I’m dead right or I’m crazy.
Afterword
The Afterword to the hardback edition of this book began thus:
This book has been three years in the planning and almost as much in the writing. Perhaps that sounds a little dilatory, but in my defense I’d point out that I have an investment firm to manage and investors to look after. They, always, come first.
In addition, though, events have nearly always run ahead of my pen. I’ve long known that the United States had a deficit problem, but each time I looked the problem seemed to have gotten worse. Likewise the euro. I knew the currency zone had problems which would likely prove lethal, but the scale of issues seemed to increase faster than my ability to write them down. My draft text constantly made reference to various shocking facts—only for me to find that, next time I looked, things had deteriorated further…When I began writing Planet Ponzi, I knew the book and its ideas were important. Now that I’m finishing it, I see they’re essential.
I wrote those words in November 2011 and now, in September 2012, with another printer’s deadline approaching, I find myself unsure of what more to say. Pretty much everything in the book has either been proved true or is in the course of coming true. Instead of writing an afterword, maybe I should just take a highlighter pen to everything I’ve written thus far, and add a giant note in the margin reading ‘It’s like this, only more so.’ But since my publishers might not love that approach, I’ll try to be a little more disciplined and update my survey in a few brief strokes.
We start with the euro crisis, currently the major headline grabber. Last year, in November, Spanish ten-year bonds yielded 5.5% on the international markets. That was already a frighteningly high rate of interest: simultaneously, a tax on the entire economy and a sign of the naked fear that stalked the bond markets. As you know, I felt back then that the Spanish story was at risk of getting much worse and that if the country’s banks needed a bailout, the government did not have the funds to provide it. Sure enough, the banks demanded a monster bailout and the government was unable to come up with the cash. These problems are set to worsen. As the Spanish economy continues to buckle, the value of its real estate will fall further, thereby causing ever-larger problems for the nation’s banks. As unemployment rises and tax revenues decline further, the debts mount and the economy shrinks.
There is, of course, a simple solution to the woes of the banks, namely bankruptcy. If a business fails, it should be left to fail. That’s how capitalism works. Capitalism without bankruptcy is like Catholicism without hell. It’s also a wonderful way to make sure that bankers remember those old virtues of prudence and risk-aversion. Nothing says do your homework quite like the threat of total wipeout.
Needless to say, however, no one on Planet Ponzi gave a thought to that solution. Instead, some European money was magicked up (without consulting taxpayers, of course) and handed to the banks. Since the money wasn’t a gift, but a loan, the whole debt pile just grew bigger. Bond markets were hardly pacified by that sight, so it wasn’t too long before Spanish bonds traded over 7.75%. (Indeed, if you sauntered along to your friendly neighborhood bank and asked for a loan, you might well, assuming you could provide some collateral, get a better rate than that. If so, you are more creditworthy than the Kingdom of Spain.) Interest rates of this level aren’t an inconvenience: they are insupportable. I mean that in a literal, financial sense: a shrinking economy with debt fast climbing towards 100% of GDP cannot pay interest of almost 8%. A government asked to do so is essentially bankrupt. That bankruptcy may take time to play out, but it’s not the time that matters, it’s the destination.
I also, however, mean ‘insupportable’ in a looser, more emotional sense. The rate of unemployment amongst Spanish youth exceeds 50%. Just imagine how disenfranchised you would feel if you were a Spanish kid, unable to get a job, whose friends were also unable to start their careers or secure their futures—and you saw your government paying extortionate interest rates, simply with the aim of deferring the inevitable by another year. Why would you put up with that? Why should you? Why would you not, in fact, prefer to take to the city streets, with flags and placards, demanding change? Indeed, it’s not even quite correct to say that the Spanish banks are being bailed out. The real beneficiaries are the creditors of those banks—German and French lenders, very often—who are being protected from the consequences of their own stupid decision making. Why would any young Spaniard regard the interests of those overseas creditors as justifying the sacrifice of a generation?
The pain in Spain has grabbed the headlines, but the eurozone crisis afflicts a continent, not a nation. It will only take a bank failure or a bad economic number to put Italy (with its much greater debt load) into the spotlight again. Italy, remember, has had four consecutive quarters of negative GDP growth. That’s not a recession, it’s a depression, and there’s no glimmer of change visible on the horizon. Indeed, the shrinking economy leads to one inescapable conclusion: that Italy is insolvent, mathematically unable to pay its debt. The country is too large to rescue, so disaster is the only possible outcome.
France, until now, has stayed at the very margins of the crisis, but it has huge banks which are overexposed to the countries of greatest risk. It also has an old-fashioned socialist government which believes that taxing wealth-creation is a sure-fire way to avoid a fiscal crunch. Though Spain may continue to hog the headlines for a period, you shouldn’t forget that there are other, larger countries in a position almost as precarious.
Meanwhile, although Germany is still regularly spoken of as though it was a fountain of infinite cash, the reality is far different. Moody’s, the credit-rating agency, has placed Germany on credit watch for a possible downgrade in its AAA rating. It is, if you like, the first signal that the limits of bailout are being reached. Any more, and Germany too will start to stagger under the load. Fortunately, voters and politicians in these richer, more prudent northern countries are becoming ever more implacable in their resistance to further bailouts. For once, and in northern Europe only, politicians are getting things right.
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sp; The same cannot be said of the central bankers, who have been as culpable in this crisis as anyone. Mario Draghi, the ex-Goldman head of the ECB, recently declared that ‘Within our mandate, the ECB is ready to do whatever it takes to preserve the euro. And believe me, it will be enough.’ Those remarks caused a huge and (to my mind) irrational surge in world asset markets. The statement, implicitly, promised that the ECB would simply buy Spanish and Italian bonds without limit, printing money as needed to fund those purchases. That a supposedly sane central banker could make this promise—to support an overindebted country in its quest to become ever more indebted, trashing an entire currency in order to do so—indicates just how deeply Ponzi-ish thinking has taken hold. Fortunately, however, the Bundesbank hasn’t lost the power of reason and has, to its credit, insisted that the ECB act properly and within the law. That’s banker code for saying that the ECB can’t print money to buy sovereign debt, nor can it seek to achieve the same ends via some legal back-door.
In short, the European crisis is coming to a head. Greece needs another bailout and will ultimately default on its debts and exit the euro. Spain will also fail to repay its debts as scheduled. I don’t know whether the rich northern countries will choose to exit the euro (Germany may exit first), or if the collapse will be forced on the southern countries first. But it doesn’t matter. The euro will shortly not exist in its current configuration and Europe will be better off for its demise. Investors who lent money to governments, lazily assuming that sovereign debts will always be repaid, will receive the best of reminders to brush up on their financial history. That too is a good thing.
The next great issue to claim the world’s attention will be the US’s upcoming ‘fiscal cliff’. That cliff arises because, on 31 December 2012, a host of income-tax cuts are due to expire and because, on 2 January 2013, a deep, automatic cut is due to be imposed on federal spending, totaling $1.2 trillion over ten years.
Now you know me well enough to realize that I want the government to cut its deficit, so you would expect me to be strongly supportive of measures aimed at bringing taxation up to a realistic level and at cutting back on federal spending. But you have to be smart about these things. If you’re speeding at 150 miles an hour on the freeway, you can’t just slam on the brakes and hope for the best. Likewise, if you’re a business needing to cut costs, you need to plan how and where to trim expenses so as to minimize disruption and maximize the benefits. Neither the scheduled tax cuts nor the scheduled spending limits have been constructed in that way. Quite the reverse. The spending cuts were purposely designed by Congress as a ‘gun to the head’, on the theory that such a threat would force partisan legislators to seek rational compromise.
No such luck. There is, even at this desperately late stage, no common plan of action, no thoughtful strategy around which Congress and the administration can cohere. The United States has never faced a more urgent peacetime challenge and our leadership—Democrat and Republican alike—are flunking it. What’s worse is that they’re not even trying. We get soundbites and attack ads and red meat tossed out to keep the party faithful happy, yet no action is taken on the one thing that really matters.
Indeed, it’s actually worse than that. The Republican-controlled House of Representatives recently passed a bill that would have extended the Bush-era tax cuts. You might reasonably ask yourself how a party with some theoretical attachment to fiscal conservatism could pass such a bill, but leave that point aside for the moment. At least the House seemed to have noticed the approaching fiscal cliff and seemed ready to take action. But appearances deceive. The House knew perfectly well that the bill it had passed would stand no chance of approval in the Democrat-controlled Senate. So, far from making a real attempt to solve a crucial problem, the House is deliberately spending crucial legislative and debating time on what it knows to be a pointless distraction: a blame game, nothing more.
I’ve said some harsh things in this book about the governments of Italy and Japan and Greece. The sad truth is, however, that the US government is as bad, or almost as bad, as these. The federal government has taken on commitments that amount to many times the size of US GDP. Because we cannot meet those commitments under any realistic future scenario, the government will be forced to default, either by breaking its promises to pensioners and those needing health care, or by runaway inflation, or both. Most likely both.
Lest you think I exaggerate, let me invite you to consider the ‘super-committee’ charged by the US Congress with finding $1.2 trillion worth of expenditure savings over ten years. A trillion dollars is a lot of money, even over ten years, but the annual amount still represents just 0.6% of American GDP, a minuscule fraction of the savings that are actually needed to fix the deficit.
In effect then, the so-called super-committee was there to do a rather ordinary job: to find the kind of cost and revenue improvements that any competent business manager would perform as an ordinary part of his or her regular duties. No manager I know would regard a cost saving or revenue enhancement of 0.6% of sales as being more than a routine operational issue. Something you fix, then move on from. Yet those super-powered committee members delivered nothing. The committee didn’t save a dime, didn’t find a nickel’s worth of new tax revenue, didn’t come up with a plan at all. By way of comparison, a recent IMF Working Paper suggested that to close the US’s fiscal gap (and taking due account of the higher health and pension costs that are on their way) would require all taxes to increase by 35% and all transfers to be cut immediately and permanently by 35%. That’s the scale of the necessary solution, yet the super-committee couldn’t even take the first modest step.
As a consequence of all this, the US fiscal outlook has deteriorated sharply. It’s gotten worse because each day that goes by without a solution is a day in which debt and debt service increase. That’s not merely a financial issue, because millions of Americans continue to plan their lives on a health care, pension and taxation system which is fundamentally broken. The closer those Americans get to retirement, the more offensive it will be to dishonor the pledges that have already been made. So the problem mounts. And meanwhile, the rhetoric of politicians alters the climate. Reforms need broad popular consent if they are to endure. Yet the Tea Party right is making it increasingly hard for any Republican official to speak sanely about revenue increases. The Big Government left likewise makes it all but impossible for any Democrat to speak coherently about entitlement reform. Because these politicians hog the airwaves, there is not merely a legislative majority against reform, there is, increasingly, a popular one too. For a country which is already bankrupt, gridlock is a disastrous position to be in. It’s genuinely difficult to exaggerate the feebleness of our politicians. If these guys had been in charge of running US operations through the Second World War, you and I would be speaking Japanese.
At the heart of this book stands an unholy trinity: Washington, Europe and the finance industry. On the first two counts, and almost a year on from first delivering a manuscript to my publishers, I can report that basically everything I thought was the case is the case, only worse. It’s like this, only more so. When it comes to the finance industry, those words are true, but insufficient. In recent months, we’ve witnessed the calamitous failure of the Spanish banking industry, and civil unrest in Spain and Greece. Worse than that: we’ve seen a general deterioration in the sovereign bond market. If I had space to re-crunch the numbers on the solvency of the world banking system, the end result would be significantly worse than the data I presented in the main body of this book. You can’t be very bankrupt any more than you can be very pregnant, but if you could be, the European banking industry would be. The British and American industries are not far behind.
There are different versions of bankruptcy, though. Financial bankruptcy is not, in itself, a dishonorable state. Plenty of fine entrepreneurs have come to grief. Many well-run companies have encountered a change in their markets which have resulted in failur
e. That’s all fair enough. But our finance industry is morally bankrupt as well as financially insolvent.
Barclays has recently admitted that it had, for years and on a huge scale, manipulated the LIBOR market. Like many of the things in this book, that sounds technical but it really, really matters. Hundreds of trillions of dollars’ worth of financial contracts are linked to the LIBOR rate. Hundreds of trillions. And Barclays—along with plenty of others—manipulated those markets to their own advantage: surely the biggest fraud in history.
But even when you think it can’t get worse, it does. HSBC has, it turns out, laundered billions of dollars for drug cartels, terrorists and failed, dangerous states. The bank’s Mexican operations moved some $7 billion into the US, and much of that money was tied to drug trafficking. Since 2006, almost 50,000 Mexican citizens have lost their lives as a result of that trade. A trade which HSBC helped to finance.
ING, a Dutch bank, recently agreed to pay a penalty of $619 million for processing billions of dollars on behalf of Cuban and Iranian clients. If employees failed to conceal the origin of the payments in question, they were threatened with dismissal. Other banks have also been punished for similar violations.
As I write, another British bank, Standard Chartered, stands accused of concealing some 60,000 illegal transactions with Iran. The bank has strenuously denied those charges (Barclays and HSBC both admitted to and apologized for the ones laid against them) and Standard Chartered itself may well be able to demonstrate its innocence. I don’t know. Yet in a way, that not knowing is the point: as things stand today, we can take absolutely nothing on trust. When major international banks manipulate the world’s largest financial markets and handle billions of dollars for some of the world’s worst people, we simply have to conclude that the entire industry needs to be rebuilt from the ground up.
Planet Ponzi Page 33
