The New Empire of Debt: The Rise and Fall of an Epic Financial Bubble (39 page)

Two thousand years ago, St. Peter urged a crowd to “turn away from this lost generation.” W. H. Auden spoke of the “low, dishonest decade” before the Great War. Could our own generation be low, dishonest, and lost? We had come to believe that things will last forever that couldn’t possibly be true for even a minute. In the spring of 2005, Fed governor Ben Bernanke told Americans that they were doing the world a great favor by borrowing its surplus savings.The globe suffers from a “glut” of savings, said he. Americans counted on overseas savers to lend them money. The overseas savers, said Bernanke, counted even more on American spendthrifts to borrow it.

The trouble with this analysis is not that it is flawed; but that it didn’t go quite far enough. The transaction Bernanke described is only half complete. It is like a man who gets dressed in the morning by putting on his shirt, but forgets his pants. He goes out on the street and looks ridiculous. Anyone who looks at Bernanke’s half-dressed explanation wants to point and giggle. He has forgotten the essential part—how and when the lenders get repaid. The borrower only does the lender a favor when he is capable of repaying it on the agreed terms. If he cannot, the transaction becomes a big disappointment for the lender. Incomes in the United States are stagnant, or actually falling. We face more and better-organized competition than at any time since the beginning of the industrial revolution. The pool of people in the world willing to work hard for $3,000 a year is enormous. Given such competition, why would U.S. wages go up? And without higher wages, how will Americans ever pay back what they have borrowed?

But the world’s financial plumbing had become so curiously put together that the oddest things had been mistaken for commonplace. We turned on the stove and champagne fizzed out. We opened the faucet and it ran with Kentucky bourbon; the whole thing was strange, but it didn’t take long to learn to like it. The U.S. economy had been so strong for so long, people all over the world had come to accept its currency as though it were real money; they took it and asked nothing in return. In exchange for a shipment of TV sets, the Japanese took a wad of $100 bills and called it even.And here is another remarkable thing: The bills tended to stay overseas—where they were used to buy another form of U.S. paper, Treasury bonds. The United States could print as many $100 bills as it wanted. So could it issue as many bonds and notes as it pleased. As long as people didn’t try to exchange them for other forms of wealth—all was well.

Rev. Al Sharpton is clean. He is not an economist. He was against outsourcing. That those qualifications did not cinch the 2004 Democratic presidential nomination for the man disappointed many people. That he had not been outsourced himself disappointed many others. For surely a clever fakir could be found in India who would be ready to make a public spectacle of himself at half the price. For that matter, all of Washington could be outsourced to the banks of the Ganges at a fraction of the price, but no one has yet suggested it.

Joined by Dennis Kucinich and Ralph Nader, Sharpton believed the United States should disavow free trade altogether. As long as we are members of the World Trade Organization, explained Kucinich in a debate, we cannot “protect the jobs . . . this is the reason why we have outsourcing going on right now.We can’t tax it.We can’t put tariffs on it.”
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To be nonpartisan about it, all the candidates’ positions on outsourcing were preposterous or scurrilous. There were those who wanted to stop it. And those who saw no problem with it. Every opinion was fraudulent, delusional, or dumb. It was widely believed that the Chinese were stealing American jobs.Their factories hummed and belched smoke while U.S. factories went silent and sent up weeds in the parking lot.

The world has been globalized for a long time. An Englishman in 1910 could sit in his parlor off St. James Park at the center of what was then the world’s greatest empire and drink tea that came all the way from Ceylon in cups that came all the way from China. Then, putting down his drink, he could pick up a Cuban cigar, put it to his lips . . . and perhaps sprinkle a few ashes on the carpet that he had bought in Egypt or the leather boots he had ordered from a shop down the street that sold Italian goods. He could buy stocks in New York as easily as he could pick up oranges from Spain or the latest French novels to make their way across the channel.

But globalization is not without its discontents. In 1910, England had been the world’s number-one superpower and the world’s greatest economy for two centuries. But global competition had recently edged the British out of the top spot. American GDP surpassed it at the turn of the century. Germany marched by a few years later. Relatively, England, that “weary Titan,” was in decline, and the globalized economy that the British Empire helped create worked against it.

Still, why would the English complain? They lived well—perhaps better than anyone else. Even if they didn’t, they thought they did. The rest of the world was content. People liked buying and selling. People in Europe liked globalization, because it brought them oranges in the wintertime. People in the warm latitudes liked it because now they had someone to buy their oranges. Even then, people spoke of the “annihilation of distance” and assumed that more miles would be destroyed in the years to come.

Globalization is nothing more than the extension of the division of labor across international boundaries. One of your authors passes much of his time in France. In his little village are the vestiges of a self-contained community. As recently as the end of World War II, almost everything people needed was produced right there.The farms grew wheat. Farmers raised vegetables, cows, pigs, and chickens. There was a machine shop, a forge, and a woodworking atelier.There still remain the
Versailles boxes,
in which lemon trees were planted.The boxes allowed the trees to be moved into heated space in the winter. Otherwise, they would freeze and die.

But as distance was annihilated, commerce in lemons was born.There was no longer any need to plant lemon trees in transportable wooden boxes when lemons could be shipped, quickly and cheaply, by the millions. One country can produce lemons. Another can produce machine gun cartridges. Individuals, towns, enterprises, regions, can divide up the labor, work more efficiently, and produce more things at lower cost. Everyone involved gets a little richer.

You’ll recall our distinction, dear reader: There are only two ways to get what you want in life.You can do so honestly or dishonestly.You can get it by working for it or by stealing it.You can get it by trade and commerce or by force and fraud.You can get it by civilized methods or by barbaric ones. You can get rich by “economic means” or by “political means,” as the great German sociologist Franz Oppenheimer put it. Globalization is merely an elaboration of the economic means of getting things. It requires civilized relationships for trade to work; people must get along with each other. They must rely on others—even other people in strange, faraway places—for important, maybe even essential items. They must also be able to count on the medium of exchange for trading goods and services. If they can’t trust the imperial money, they will switch to something else.

The end of history has been announced several times. But it never seems to arrive. People always tend to think that what is will remain, that present trends will continue at least indefinitely, and perhaps forever.When the going is good, they tell themselves that the odds of anything going wrong are like the extreme edges of a bell curve—vanishingly small. But people badly “underestimate the persistence of history’s traditional side, the rise and fall of empires, the rivalry of regimes, the disastrous of beneficent exploits of great men,” wrote French historian Raymond Aron. That is to say, they tend to ignore the political means that shake things up and the rare “fat tail” events that make history interesting. Fat tails are those uncommon things that bunch up way out on the extremities of bell curves. They are things that shouldn’t happen very often, but that tend to happen more often than people expect. That is why the tail ends of bell curves have little bulges in them—or
fat tails.

Such a fat tail happened in 1914. A European war came after nearly 100 years of peace and progress. People thought the war could not happen. And if it did happen, they said, it would be short and sweet. As we have seen, they were wrong on both points. Again, in the 1930s, came another “fat tail” event—a great depression. And once again, globalization entered a shrinking phase.

Some experts think globalization can only flourish under the protection of an imperial armada, such as that of Great Britain in the nineteenth century and the United States in the twentieth. They are plainly wrong. Sometimes trade arrangements are elaborated. Sometimes they are trimmed back.The presence or absence of a sheltering empire is a factor, but certainly not an essential one. Switzerland has always enjoyed healthy trade with its neighbors, despite never being part of an imperial system. And even within an empire (such as within the Soviet Union), trade might be more difficult than trade between independent states.

Still, in the free world until 1989, and now almost everywhere, a pax dollarium greatly aided the cause of globalization throughout the second half of the twentieth century. America—and much of the rest of world—enjoyed a great boom after World War II.They were years of high growth, low inflation, and high employment. Tom Wolfe called it a “magic economy.” Real incomes doubled from the late 1940s to the early 1970s. So did household income and consumption per capita. People were twice as rich because they produced twice as much as they had a quarter century before. Productivity, or output per worker, rose 100 percent.

But in 1973—two years after Richard Nixon took the nation off the gold standard—the economy lost its magic. No one knows exactly why. But that didn’t stop people from having opinions about it. Conservatives thought economic policy had been too socialistic; there were too many rules, too many taxes, and too many government expenses. Liberals thought there needed to be more controls; economists needed to manage the economy better, like the Japanese did. They also blamed free trade, which they saw as a threat to America’s developed industries.

It took many years to achieve, but year after year, all the world’s leading industrialized nations added laws, regulations, and taxes designed to make things better. And all these Wilsonian improvements cost money, reduced investment, or merely slowed down the economic machinery.

Taxes took resources out of the productive economy and moved them into government spending—which was essentially current consumption, with little future payoff. Taxes also discouraged investment by reducing real rates of return. This was especially important as inflation rates rose because taxes applied to the entire nominal gain, not the actual, real profit. An investment might double in nominal value. But if the value of the currency fell in half during the same period, the investor had not made a dime. Still, the Internal Revenue Service would tax his nominal profit as if it were real. Also, as the government began supplying more and more “bread” to those who needed it—welfare, social security, health benefits, job protections, entitlements—people saw less need to stock their own cupboards.

In September 2004, the personal savings rate among Americans was just 0.2 percent of disposable personal income.When Ronald Reagan first entered the White House, the rate was over 8 percent. “Gross national savings” (calculated by deducting capital imports from total domestic savings) were nearly 20 percent of GDP in 1980.They fell to 15.6 percent in 1989 and then to less than 14 percent in 2007.

Net national savings are even worse. You get the net figure by subtracting depreciation of the capital stock. As the economy became more and more reliant on communications technology, the rate of depreciation increased. New computer systems and communications software just don’t last as long as a new auto plant. Net national saving had been 8 percent of GDP in the 1970s. It averaged only 3.4 percent in the 1980s. By the 1990s, it was down to 3 percent. And in 2004, the number sank to 1.6 percent.

With no savings of their own, the country relied on foreigners to do the savings for them. But not only did the foreigners have to save, they had to be willing to buy U.S. financial assets—mainly Treasury bonds—denominated in U.S. dollars. If they grew tired of it, or wary of it, the dollar could collapse.

The odd thing about the spurt of globalization in the first five years of the twenty-first century was that it was so lopsided.The United States took, but it didn’t give. It borrowed, but it didn’t pay back. It bought, but it didn’t sell. It imported, but it didn’t export. The only reason foreigners put up with it is that they assumed their dollars would be as valuable in the future as they are now. They assumed that the trends of the previous 50 years would continue unchanged. They assumed that no terrorists would knock off an archduke, that they would never want for bread, and no fat tail would plop itself down in the currency markets.

Americans and their politicians preferred to see neither a glass half empty nor a glass half full, but one that was full to the brim. Of so little interest and importance was the trade deficit that, at the nation’s two political conventions, it was hardly mentioned. Everything was almost perfect, said the Republicans—and getting better and better every day. Everything was almost perfect, said the Democrats—but the Republicans were making a mess of it. “Outsourcing” was a problem, all agreed. The trade deficit, on the other hand, didn’t matter.

Back when Paul Volcker was at the Fed, the central bank’s role was to “take the punch bowl away” before the party got out of hand.Volcker did it at the end of the 1970s—sending Treasury yields above 15 percent. The party animals were so mad, they burnt an effigy of Volcker on the Capitol steps. Still the Fed brought inflation under control and prepared the way for the boom of the 1980s and 1990s. But by 2005, the party had gotten so wild that people were dancing on tables and putting lampshades on their heads. And Ben Bernanke and Alan Greenspan were creeping over to the punch bowl with grins on their faces and bottles of gin in their hands.