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FRA: Hi, welcome to FRA’s Roundtable Insight .. today we have Charles Hugh Smith: author, leading global finance blogger and America’s philosopher, we call him. He is the author of several books on our economy and society including “Erratically Beneficial World”, “Automation, Technology and Creating Jobs for All”, “Resistance, Revolution, Liberation”, “A Model for Positive Change” and “The Nearly Free University and the Emerging Economy”. His blog OfTwoMinds.com has logged millions of page views and is a very high at number 7 on CNBC’s Top Alternative Finance Sites. His recent book is called “Pathfinding Our Destiny: Preventing the Final Fall of Our Democratic Republic”. Welcome Charles!

Charles: Thank you Richard! I’m always impressed by your lead-in and I don’t know if I really match those high expectations, but I think we got a great topic today and will try to add some value.

FRA: Always meet and exceed expectations here, your work is phenomenal. So today, I thought we would do a discussion on bringing together a number of pieces that you have written about, on different types of trends that are happening in the economy, in the financial markets, in our society as a whole and how it all gets dotted together what are the linkages between them and where this is all going. So, we have a number of topics to discuss in this regard but just from the base, from the beginning we see demographics challenges and debt exhaustion as two of the key trends happening and can you elaborate on that based on your recent writings?

Charles: Yes, and just as kind of our context that we are talking about here is demographics are obviously sort of like long wave or long cycles. In other words, the workforce can only go up or down by so much, given that the people who are entering the workforce were born 20 years ago. So, it’s not something like debt or GDP or something. It’s not a statistic that’s a financial statistic that can be manipulated or massaged. It’s like demographics define the society and the economy in a fundamental way. And so, what would people like Chris Hamilton, who is currently writing some great work on demographics and the economy and people like Martin Armstrong and Peter Turchin, people with a long historical view. They all point to basically one issue, which is: promises that are made by the government to the people in boom times.

They cannot be met you know, once the situation starts stagnating. In other words, boom times go to low growth or slow growth or no growth right, because the workforce that has shrunk or has reduced jobs or the reduce in the work force in terms of age. That workforce’s too small to support all the promises that were made to the pensioners and to the government’s other programs and so this shortfall in wages and profits that can be taxed, that forces the government into making some sort of adjustment or attempt to fill in the gap between what’s actually affordable and what was promised and of course there is great political pressure to fulfill what was promised.

So throughout history governments has always tried to borrow money from the future in order to meet their obligations today and that can work in a very short timeframe, like if you need to borrow money from next year and your tax revenue is going up next year and borrow a little bit from the future would be OK but if your tax revenues and your overall economic picture is not growing as fast as your debt than eventually what happens is where we are now, that the debt is growing far faster than the ability to service that debt. And so, I call this ‘debt exhaustion’, some people call it ‘debt saturation’ and so what it means is then the government and the people start demanding even more adjustments and as a result it becomes visible that we can’t meet the promises that have been made. So, then the people start demanding that the government borrow more money and distribute it as universal basic income or some other kinds of programs and the government starts looking at some of it’s trading partners and going “well we need to get some more money out of trade” so then we have tariffs and trade wars. And I think what the linkage to me every so-called solution to the problem is that we no longer have the resources necessary to fulfill the promises that were made in boom times. Every one of those so-called solutions creates even more of a problem and it usually ends up being expressed in debt and social or global discord.

FRA: Yes, and that’s a theme there where this continuous, feedback loop with government getting into more and more debt trying to solve these challenges that happen. Even Illinois the other day has it going into more debt with all kinds of crises, pensions crises, what is their solution? Well let’s create some more debt. And you know, try to buy some more time. So, it’s a continuous cycle and more and more we get to this debt exhaustion phenomenon as you describe it. And then that’s also all-together with demographic challenges leading to essentially a crisis in government and that’s what Martin Armstrong has been talking about a lot recently as we go into 2020 in particular where he sees a crisis in government with the government being a problem, more of a growing awareness that government is the problem. Alongside that would be a loss of confidence in government and government institutions, your thoughts?

Charles: Right, excellent, that’s certainly a good description of what we are seeing already, and I would just want to add that one of the so-called solutions that the central state has attempted recently, which is manifested in the central bank policies as opposed to the treasury or fiscal spending. The central banks of the major economies have attempted to create new growth or spark growth in a stagnate economy by financial oppression by forcing capital into risk assets and generating or inflating these asset bubbles which generate a lot of phony wealth. The house is not providing any more utility value than it was before, but it was once worth $150,000 but now it’s worth $900,000. Some of that is supply and demand and a lot of it is phony wealth that was created by financial oppression and so those people who own the assets that have been heavily inflated of course have benefitted greatly and the people who don’t own those assets have not benefitted from those policies right, and so we know that it’s a fact that roughly the top 10% of US households own 90% of all financial and capital assets. And so that concentration goes up to where you know, 5% of the households own something like 80% of the wealth in the US and I think that’s paralleled in a lot of nations, especially in China. You know that the wealth is generally held by a relatively small percentage of the population. So that wealth inequality which has been driven by central bank policy then creates even more social discord because the have-nots look at these policies that are so blatantly unfair that they favor speculating capital over other kinds of capital investments and over labor and so then they demand redress. So these are the demands for free health care, free higher education, debt forgiveness, universal basic income and then the question becomes: how is the government going to pay for these trillions of dollars and so called QE for the people and you know those demands we understand where they come from right, and in other words this financial oppression does favor a specific form of speculative capital over all other forms of capital and labor so it is unfair and so people are responding to that unfairness but how is the government going to fund that out of a dwindling tax base?

FRA: Yeah and another example of that is how those who are close to the money could be able to borrow from central banks at very low rates, 25 basis points for example. And then turning around and buying bonds paying say, 3% so you’re getting 275 basis points essentially for free. Now you and I can’t do that but those that are close to the money the banks in particular commercial banks are able to do that and then there’s a leveraging process that goes along with that so that has exacerbated the wealth inequality and income inequality.

Charles: Yeah, absolutely and there is another mechanism here that since we’re talking about debt and as peoples’ earned income has stagnated as a generality at least for the bottom 90%. Then they’re borrowing more right, and we see people borrowing huge amounts of money for higher education, for college and for vehicles that are now very expensive, 35 or 50 thousand is not an unusual price anymore, as well as credit card debt and so this- all this debt, whether public, private or corporate is actually sapping the ability of those entities to save and invest in the future right, because as more and more of your income goes to servicing debt you have less and less to invest and so depending on debt for this cheap, easy shot of growth in the present is actually strangling income and investment in the future. And so, where does real wealth arise? It arises from increasing productivity that requires massive investment and skills and equipment and other forms of capital so if you’re basically over-borrowing in the present to fund today’s promises you’re basically strangling your economy’s future hopes of generating higher productivity because the money to invest simply won’t be there. It’s all spent on servicing existing debt.

FRA: And so instead of taking that avenue and the solutions that you detailed in your current book, “Pathfinding Our Destiny: Preventing the Final Fall of Our Democratic Republic”, we seem to be on a different path and that is towards populism, polarization, extreme political views in both directions, to the far right, to the far left. Extreme type of suggestions like universal basic income and MMT, all requiring more spending and more debt as you mentioned. And in particular we see now movements to the far left, as far as socialism is concerned with the millennial Alexandria Ocasio-Cortez and just recently Bernie Sanders announcing that he will be running again for president. Your thoughts?

Charles: Yeah, and again I think the core dynamic I see is the policies of central banks have increased wealth and income inequality, that’s a reality right. And so, what’s our response to that reality and of course for people who feel that the system no longer works for them, that they have been left behind then they want some sort of redress. And so, when we look at the popularity of Bernie Sanders and AOC and their degree in new deal, these are all attempts to redress this rising wealth and income inequality right. And that is understandable impulse right, we understand that. And it’s not a bad impulse in and of itself, it’s a matter of how do we reach that goal of levelling the playing field of redistributing opportunity and capital more fairly than it is now.

So what I think we are really facing is, how do we start facing living within our means, and that means demanding sacrifices of everybody in the system and why there is a lot of resentment in it politically now is people understand intuitively that a certain segment of the population that has been favorited by central banks and financial oppression, they haven’t sacrificed anything. They have actually benefitted enormously from these policies of asset bubbles so on and huge debt, huge accumulations of debt and then it’s everybody, the bottom 95% who have had to make the sacrifices of higher inflation, higher debts, stagnating wages and so on. So I think we need a reset of the system where the solutions are not to borrow more through central banks and central governments but more like decentralized, more flexible, more adaptable, more localized solutions that are more like focused on generating opportunities for everybody that is participating in the economy and trying to find ways to lower costs as opposed to borrowing more money to pay highly inflated costs for things like higher education and health care and so I think the solution set is to use innovation and innovative social policies to try to create a more adaptive, flexible localized decentralized economy. And I think that a lot of these problems will start melting away because it’s a lot harder to manipulate and impose some kind of centralized privilege on a very decentralized system and so these people of the AOCs of the world of course seeing the central government and the central bank as the source of the solution where those of us from a little different point of view see them as the source of the problem that will never be solved by borrowing tens of trillions of dollars into the future because that will eventually destroy the currency and that impoverishes everybody. Rich, poor and the middle alike.

FRA: Exactly, whether it be increasing the size, complexity and cost of government from the left or from the right. Is basically leading to similar end results in terms of loss of, decline in standard of living, loss of purchasing power and ultimately capital wealth drain and brain drain at the same time and this has happened many times in history. So, as you mentioned the answer is more as you have outlined in your new book, more of a limited centralized form of government, more efficient, increased efficiency but at the same time lowered cost of that.

Charles: Right, that’s where innovation is almost intrinsically deflationary right, in other words what was once extremely expensive becomes a lot cheaper once it’s commoditized and innovations arise in both product lines and service lines. I want to mention real quickly there is a lot of talk today of trade and tariffs; trade wars. I just want to fit that into the puzzle we are assembling here is that again as the economy stagnates, so does the government’s revenues right, and so the government is then seeking some redress, like some way to jumpstart the economy you know, or get more growth and then trade comes up. Because if it seems that some other nations are taking advantage of your nation then you want to eliminate that imbalance if you will, and bring back some of the benefits back to your own country so this is the basis of a lot of ideas about reshoring the industrial base back to America; reshoring manufacturing and so on and this is understandable and from the Chinese point of view they have the same concern. They are afraid that if they lose trade, then their economy will stagnate, and they will have all of the same problems that the older western powers are facing because the demographics are not favorable in China either in terms of the one child policy, has created a much smaller workforce than the pensioners who are expecting the government to fund their retirement in China. So, these are global issues and that may be partly why we’ve got global discord.

FRA: Yeah, and I want to mention a book that also recently came out called “The Prosperity Paradox: How Innovation Can Lift Nations Out of Poverty” by Clayton Christensen. It’s a fascinating book, I’m looking forward to getting a copy in the next few weeks here. But essentially what he suggests is a better way of approaching innovation; using innovation to help build a framework of economic growth that is based on entrepreneurship, market-creating type of innovation. So, this is his solution, very inline with what you’re saying in terms of more decentralist, decentralized form of government and being able to apply innovation. I might add also that there’s a new framework today in the economy called Agile, is also a way to help foster this innovation that is more efficient, lower costing overall for governments, so the application of agile technology to innovation in this approach that both you and Clayton are mentioning seems to be the right way to go.

Charles: Right, right, and I guess I would sort of summarize that particular aspect of what we’re talking about, is there’s you hear a lot of talk now about how capitalism has failed right, and you hear other defenses of capitalism and of course the root problem is we’re using one word to describe two different economic systems right, and so called ‘bad capitalism’ is what’s- there’s a lot of that dominates the US economy where I would call the cartel state economy. In other words, cartels which then raise their prices while reducing the quality and quantity of their services.

So, once you get a quasi-economy situation that’s enforced by the state, you get bad capitalism. You get pharmaceuticals that there’s no competition for, that can charge $100,000 a dose and so on. And that’s bad capitalism. And of course in other situations bad capitalism includes crony capitalism where corruption is rife and where the sweetheart deals and soul bids for contracts and so on and so on and this is bad capitalism; it’s not really the entrepreneurial capitalism that you are describing where entrepreneurial capitalism is based on a level playing field where everybody follows the same rules and there’s open access to capital and labor and there is competition because competition is what keeps people honest and it drives innovation and if you could just keep raising prices while producing really poor quality then you got no motivation to improve your quality. So, we’ve allowed a lot of bad capitalist situations to arise where competition’s been stifled or snuffed and there’s a lot of mechanisms for doing this. You raise regulatory barriers so nobody else can afford to compete with you and these kinds of things and there’s a lot of games that involve the central state so in other words I don’t think you can get the worst forms of capitalism that kleptocracy without a central government to enforce them. So when we talk about innovation and decentralization and agility what we really want to see is a very limited form of central government because if you allow the central government to get that much power than they can enforce monopolies for their cronies and this is what we see in industry after industry and so to have a level playing field you have to decentralize power and capital as well as opportunity.

So that’s kind of the foundation to create an agile entrepreneurial society so you have to have a level playing field like enough regulation to make sure you don’t get overwhelmed, a monopoly that ends up being enforced by the central state and you want opportunity and opportunity to gain capital that’s broadly distributed and so a centralized model just really reinforces bad capitalism and it decentralized model reinforces good capitalism.

FRA: And your final thoughts on how we can get there is the question: Do you see us happening through a crash and burn type of scenario or is there a better way, a sort of easier way to get there from point A to point B?

Charles: Well I wish there was, but actually Richard, that’s a great question because we referred to Martin Armstrong and I often refer to historian Peter Turchin and when we look back in history, history doesn’t have many examples of an easy peaceful transition from one social-economic order to the next one and so history suggests that we are going to have to go through a period of turmoil and discord that will see a reset of the system where the system breaks down. And I think what we were talking about today is a system where debt will reach levels that are unsustainable and attempts to service that debt and expand that debt will destroy the currencies that people depend on that will be the crisis which enables a reset of the entire system but it’s gonna be painful for sure.

FRA: And on that note, we’ll end our discussion for today but that’s great insight Charles. How can our listeners learn more about your work?

Charles: Please visit me at OfTwoMinds.com, you can download free chapters of my last couple books and look at my archives and I hope you find some value.

FRA: Great, thank you very much Charles!

Charles: Ok, thank you Richard!

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.