A CONVERSATION WITH RANDY CHARLES EPPING
Q: Credit crises, trade wars, sub-prime debt, currency meltdowns. What's going on in today's global economy?
A: We're experiencing a totally new world order, or disorder. I refer to it as “fusion economics.” Essentially, because of changes in technology, communication, and new structures for global trade and finance, the world economy of the 21st century is interconnected in ways that would have been impossible to imagine just a few decades ago.
Q: Why are things so different now?
A: In today's fusion economy, money and goods are flowing around the world with such speed and ease, what happens on the other side of the world has a powerful and immediate effect on our daily lives. Just look at how the global financial crisis has spread, like wildfire, from New York to Tokyo to London, from China to Iceland to Russia. The impending collapse of the Eastern European economies, for example, not only threatens the Western European banks that have loaned substantially in that region, but the entire global financial system. The proverbial butterfly flapping its wings over Tokyo can very well end up causing financial storms from New York to Moscow to São Paulo. Unfortunately, no one knows when and where the next financial meltdown will strike. But if we're going to be able to prepare for it properly, we're going to have to understand how “fusion economics” works-which means learning how to look at the world economy in entirely new ways.
Q: What exactly do you mean by “fusion economics”?
A: Like a fusion reaction-where hydrogen molecules are joined together to produce enormous amounts of new energy-the converging global economy is interacting in entirely new ways and releasing a lot of new energy in the process. It used to be that we could understand the world economy by using normal linear forms of approach. By following a fairly simple path, we could arrive at a clear economic conclusion: a better product or a more efficient company meant more productivity, which meant a higher standard of living for all. But today, things aren't so simple. How can we say that economic growth in China or India is a good thing if it increases global pollution or leads to food scarcity? How can we say that increased access to mortgage financing is a good thing if it entices subprime borrowers to buy houses they can't afford to pay for-leading to failing banks in Europe and the United States, stock market crashes in Asia, and a worldwide credit crisis?
Q: Is it possible for anyone to understand what's going on in today's global economy?
A: It's not only possible, it's essential. If we're going to be effective investors, consumers and voters, we're going to have to become economically literate. Essentially, we all have a role to play-it's not just the lobbyists or the special-interest groups who should be deciding how we live and work in the century ahead. And it's certainly not the bankers and politicians who got us into the mess we're in today.
Q: How do we become economically literate?
A: In THE 21st CENTURY ECONOMY-A Beginner's Guide, I show how we can use everyday examples to understand the complex economic concepts we're confronting in our everyday lives. A Stock Index is not all that different from a farmer going out into the field and checking on the progress of a few selected plants to see how the crop as a whole is doing. Federal Reserve funding, like that being used to pay for part of Obama's recent stimulus package, is based on Central Banks' ability to create money-just like the bank in a Monopoly game being used to inject funds into the “economy” at large, by giving players $200 or more for passing “Go.” Every day, we're hearing more about economics in the news, on the web, and in our daily lives. Credit crunch, mortgage backed securities, economic bailouts-these are terms that we're all going to have to understand if we want to have any chance to thrive in the new 21st century economy.
Q: Speaking of economic bailouts, trillions of dollars are being spent by governments around the world, with much more probably to come. Why is it so important to save everyone from banks to carmakers to insurance companies?
A: Actually, it's not so important to save individual companies. Many would go under anyway, even during normal times. Inefficient carmakers, for example, are eventually replaced by the ones that know better how to efficiently produce vehicles that the public wants to buy. But banks and major insurance companies, like AIG, because they provide the liquidity and stability to the economy at large, need to be treated as special cases. It's not a coincidence that the first round of government bailouts was directed at propping up the banking system. Without the money that banks provide in the form of loans and credit, the economy would grind to a halt.
Q: But which ones do we save and which ones should be allowed to fail?
A: The major banks can't be allowed to fail-especially not after seeing how the credit markets froze up after Lehman Brothers went bankrupt. The question is: how to save them. Many politicians and economists have begun calling for nationalization of banks and major industries. It's already happening in Europe, including that freemarket bastion, Britain.
Q: How would nationalization work?
A: A government can simply take control of a bank-or any company-by acquiring a majority of the voting shares. The government can then use its controlling shares do whatever is necessary to bring the bank back to health. Firing management or cleaning up the bank's toxic assets, for example, so the bank can start lending again to stimulate economic growth in the economy at large. When things have settled down, the government can then reprivatize the bank by selling its shares back to the public, and hopefully not lose too much money in the process. An alternative solution would be to put the bank's toxic assets, basically those that are unsellable in the current market, into a government-controlled “bad bank” which would be responsible to manage the assets until they could be sold-hopefully at a profit, at one point in the future. This is somewhat similar to what happened during the Savings & Loan bailout in the late 20th century, when the government took charge of the problem mortgages-which kept the financial system from going under.
Q: What, in your opinion, is the best way to solve the problem?
A: Actually, neither of the options I described above is going to solve the current crisis completely, or cheaply. The problem with both plans is that many of the major banks in the United States have a significant overhang of bad assets, not just mortgage-backed securities that we're hearing about. There are a lot of other bad assets out there-credit card and other consumer loans, for example. Even commercial property is headed south. We've only seen the tip of the iceberg. The “zombie” banks of the 21st century economy, if allowed to continue as they are, are surely going to go from bad to worse. In the end, it's going to take enormous amounts of money to save the world's banks and insurance companies.
Q: Where will all this money come from?
A: In the United States, it comes from two primary sources: the U.S. Treasury and the Federal Reserve. In the end, of course, it's coming out of our pockets. By issuing Treasury bills and bonds, the government “borrows” money from the markets that can then be used to stimulate the economy at large. Since the money comes mostly from domestic savers and foreign investors, treasury borrowing tends to “crowd out” the market, leaving less available money for non-governmental borrowers such as individuals and private businesses. All these bills and bonds need to be paid back at one point, theoretically, so it's the taxpayers who ultimately foot the bill.The other main source of funding for the bailout programs comes from the Federal Reserve. By having unlimited power to tap into its “black hole” of credit, the Fed can, essentially, “create” money. It does this by buying assets in the economy at large-government bonds, mostly-crediting the sellers' accounts at the Fed, which frees up money that can be used in the economy at large.
Q: Many politicians have argued that free market, neo-liberalism ideas are dead. Are the ideas from the Reagan/Thatcher era still relevant?
A: The idea that markets can be allowed to regulate themselves has been pretty much debunked by the current financial meltdown. The banks and rating agencies that allowed trillions of dollars to be invested in sub-prime loans to borrowers who had no ability to pay off their mortgages is a scandal of epic proportions. Foreign investors, especially, believed that what they were buying was of AAA quality, equivalent to the credit worthiness of the world's healthiest lenders.They've been burned so badly that it'll be a long time before they trust the markets to “do the right The rush to put money into government assets, such as U.S. Treasury Bills, demonstrates the radical turn away from market-based investment-at least in the short term.
Q: More government control and government regulation-will it create a bigger state? Or a more effective one?
A: Unfortunately, the turn away from neo-liberalism means a much bigger role for governments in business and financial markets-which doesn't have the best track record of running an efficient economy. We only need to look at the economic disaster of the former Soviet empire, or Venezuela, or Iran to see that turning your back on free-market capitalism, “savage capitalism” as described by Venezuela's Chavez, doesn't always provide the prosperity that people hope for. What is needed is a healthy dose of government oversight without unhealthy interference of governments in global markets. It's going to be hard to balance the two, however. Especially during a financial meltdown like the one we're now experiencing.
Q: In your new book, you write a lot about free trade. Many unemployed workers complain about jobs moving somewhere else, and growing deficits with China can make Americans and Europeans more concerned about free trade. Do you think isolationism can have a surge in the coming years?
A: We're seeing it right now. The U.S. Congress has insisted on keeping “buy American” provisions in the recent stimulus package. And the French government has put isolationist conditions on its bailout of domestic carmakers. Even the Swiss are encouraging domestic banks to loan to locals. The reasoning is simple: cash-strapped governments are asking themselves, “Why should we spend domestic funds to prop up foreign companies and encourage foreign competition when what we need to do is protect jobs at home?” The problem is that by putting up barriers, you end up hurting yourself even more in the long run. U.S. steel producers, for example, may benefit from isolationist government policies, but the companies that earn their money from exports are hurt in the process. The end result is even more jobs being lost and consumers having to pay more for inefficientlyproduced domestic products. We only have to look back at the disastrous results of isolationism during the Great Depression. Trade wars are easy to start but extremely difficult to stop. Once the momentum builds for “beggar thy neighbor” economic policy, it's a global free-for-all, where the ones being hurt, in the end, are the workers. Without access to foreign markets, many farms and factories-in the developing world especially-will have to close down, leading to massive job layoffs.
Q: In “Rage against the machine”, you write about the fuss over globalization. Do you think the next decade will be a less globalized one, with more barriers among the countries? Or is globalization unstoppable?
A: Globalization is not unstoppable. During financial and economic crises, the first thing many investors and companies do is retrench. In the developing countries, we're seeing this happening right now. When rich-country investors lost a bundle in U.S. and European markets during the 2008 market meltdown, the first thing they did was pull out money from the developing world to cover their losses. This led to catastrophic drops in markets from India to Russia to Brazil. To make things even worse, by converting their investments to U.S. dollars, to the tune of hundreds of billions of dollars exchanged during the crisis peak, currencies around the developing world plummeted as well. The irony is that the United States market was responsible for the crisis, but it was the developing world that suffered the most.
Q: How do you expect emerging markets will do in the years to come? What are the prospects for the BRIC countries, for example?
A: At the present time, there are no really “safe” bets for investors. Even the Chinese are at a loss to find a safe place to put their enormous foreign currency reserves. That being said, I would still keep investing money in the developing world economy, absolutely. They're on their way to economic superstar status-in some cases, they already are. In today's “fusion economy” the developing countries already contribute greatly to world economic growth. While Europe and the United States economies are in decline-with negative growth projected for the next year or two at least-countries like China and Brazil are still growing at a rapid clip. Not as much as before, but growing nonetheless. In addition, their purchases of developed country debt-China already has acquired more than a trillion dollars in U.S. government securities, for example-is paying for many rich countries' budget deficits. Somehow, it all needs to be coordinated.The G7, which used to make all economic decisions alone, is increasingly turning to the G-20, which includes the economic powerhouses of the developing world, to find solutions to today's problems. An example: already more than 40 percent of all foreign reserves are held by the four so-called BRIC countries (Brazil, Russia, India and China) which, in many ways, is what's keeping the world economy afloat by providing the funds for increased government borrowing-in the U.S. especially.
Q: But are developing country markets a safe bet for investors?
A: No market is safe these days, but in many ways, the major developing economies have what it takes to succeed in the new 21st century economy where goods, services, and money flow around the world in the blink of an eye. With the exception of Russia, they also have the advantage of enormously youthful populations-eager to learn, to work and to spend.We simply need to give them a stable investment (and trade) environment, and the sky is the limit. The problem is that all this new growth can bring concomitant social and environmental problems.
Q: A propos the environment, until recently, poverty was a major issue-until Al Gore turned the environment into the new black. Now, with the financial crisis, do you think the eradication of poverty and the green economy are being put on the back burner? How can they return to being top priorities?
A: Currently, the major concern of developed-world leaders is solving the present crisis, to “jump-start” economic growth within their home countries. But we're seeing signs that environmental protection and eradicating world poverty are coming back on the radar screen of world leaders. One of President Obama's big priorities-or so he says-is to make the U.S. economy more environmentally friendly.This can be achieved in economically-friendly ways, by making large infrastructure investments in green areas such as solar power and mass transit and by spending less money on traditional polluting industries. Interestingly, the new economic bailout plan in the U.S. includes massive amounts of money to be spent to find new ways of producing and distributing energy. President Obama also proposes to expand the use of renewable energy sources such as hydroelectric power, solar energy and biofuels. Hopefully, the new solutions won't do more harm than good. Some corn-based biofuels produced in the American midwest, for example, have actually caused a net increase in greenhouse gas emissions and have used up valuable farmland that could better be used in the fight against world hunger. In the end, fusion economics means paying attention to all aspects of our economic decisions-not just the ones that first meet the eye.