The Fragility of the Global Financial System

We’re on a slope where monetary policy has become increasingly ineffective in promoting real economic growth. Every crisis was met with monetary easing that caused debt and other imbalances to accumulate over time, and that caused the next crisis to be bigger than the previous one. 

William White, Former Chief Economist of The Bank of International Settlements

Cracks on the Wall in 2021

A few weeks ago, US Secretary of Treasury Janet Yellen announced that the US government is heading towards default if Congress does not lift its ‘debt ceiling’. As we all know from economic history, the default of the United States would be a catastrophic ‘financial Armageddon’. With the US being the largest economy in the world, this is alarming news.

On the other side of the world, China’s second largest property company, Evergrande is facing a debt crisis. The default of Evergrande may have potential spillovers with the residential market being worth 29% of China’s GDP (Rogoff and Yang, 2020). Excess leverage of the Chinese corporate sector does not spell financial confidence. Some are claiming that this is potentially a Chinese ‘Lehman Brother’ bubble bound to pop like the 2007-08 global financial crisis (GFC).

In Europe, since the advent of Covid-19, the European Central Bank bought virtually all the government bonds (quantitative easing) of European countries like Italy and kept its interest rates at zero percent. No private investor is willing to buy government bonds at this stage. The only market players in this area are central banks.

Something strange is happening across the world economy. We are witnessing imminent cracks in the global financial system. It’s difficult to predict what may occur in the next few months or years, but one thing is clear – the global economy is extremely fragile. The net worth of many individuals and households are bound to crash sooner or later.

Populism is the true legacy of the global financial crisis | Financial Times
There are strong correlations between populism (both left and right wing) and the 2007-08 global financial crisis. (By Ingram Pinn for The Financial Times).


Virtually everyone understands that getting into excess debt leads to trouble. Whenever someone sees a ‘red’ balance in their bank accounts, they panic and try to do everything they can to either lower their deficits or pay back the debt. Financial circumstances matter to people. Saving before spending is the common wisdom. This logic applies to governments too. Except they have the ‘printing press’ with government-controlled (or owned) central banks to fill their coffers (as lender of last resort), on top of tax revenue.

Whilst it may be true to claim that governments are different to individuals and households, its economic decisions have significant consequences on our livelihoods.

It’s been a year since the Covid-19 pandemic began. In contrast to last year’s 3% economic contraction, the International Monetary Fund (IMF) projects that the world will face positive economic growth of 6% for 2021 (IMF, 2021). It seems that high vaccination rates are allowing cities and regions to get out of lockdowns. The United States, the United Kingdom, the European Union and other parts of the world are opening up to the rest of the world. In hindsight, financial circumstances appear better than 2020.

However, there are serious questions as to whether this will be the case in the medium term. In response to the Covid-19 pandemic, many governments across the developed world have accumulated debt levels well-beyond their annual economic output (Gross Domestic Product – the value of every single thing sold on every single shelf around NZ and the value of every single person who worked for a whole year) and the net worth of these governments are heavily in the negative (considering the assets and liabilities of governments).

Table 1: Net Worth of Governments

United Kingdom-141
United States-69
South Korea41
New Zealand46
As of 2016, governments were already under in the heavy negatives (IMF, 2018)

This is an unprecedented level of debt during peacetime. Instead of fiscal surpluses, we have so far witnessed the exact opposite from governments. Unfortunately prudence is not a popular term for government officials. Low interest rates from central banks induced more governments to borrow more money. They decided to get the money now instead of the future. Instant gratification took precedent over delayed gratification.

In addition, central banks across developed economies printed trillions of dollars out of nothing to stimulate the world economy away from the recession. They also lowered its interest rates to zero-bound levels. In essence, central banks have made borrowing extremely cheap for everyone, including governments. But the such low interest rate levels are unprecedented.

Spending has become easier. Saving money is not rewarded. Inflation undermines the real value of the dollars in your bank account. This forced individuals to speculate in the stock market or the housing market for a decent return. Unproductive zombie firms have been propped up without falling, forcefully maintaining low unemployment levels without ‘creative destruction’ (Banerjee and Hofmann, 2018, 2020)

But what happens if these markets face downturns again later? Everyone may lose everything. Can they react in a similar manner to the GFC of 2008 or Covid-19? Are bailouts from governments even feasible? I’m not entirely sure.

This is why governments and central bank policies matter to all of us. This essay will explore the few key variables that culminated into the current state of financial affairs. The moral hazard problem; the public debt precedent set by the 2007-08 GFC; the doubling down of debt with the responses to Covid-19 and finally the potential long-term ramifications of these responses.

In times of uncertainty, policymakers pursued these policies for correct short-term reasons, but the decisions have created unintended consequences for the future. Central Banks cannot raise interest rates, nor can they suck the printed money out of the system for fears of creating a worse recession. They are now stuck at a corner by kicking the ‘recession’ can to the future. In the words of former Federal Reserve economist Bill Dudley, central banks are “running out of fire power” (Dudley, 2020).

The decisions in response to the pandemic were understandable. In the face of uncertainty, it is entirely rational to have pumped money into the economy, and to have spent billions on the wage subsidy and other fiscal programmes across the developed world – including New Zealand.

But the net consequences is that the financial system does not look healthy or sustainable. In contrast to optimistic scenarios, the reality is that the world is at a crisis point.

Overall, the decisions by governments and central banks have created a financial system that is chugging along entirely on the “excessive build-up of debt” (White, 2021). This is unsustainable and a form of a financial crisis will loom the world soon. It is uncertain how this next crisis will occur, but economic history tells us that risk is always present (Reinhart and Rogoff, 2009).

We will explore the reasons why that is the case. The origins of the problem started with the end of the stagflation period under Paul Volcker.

The Rise of Moral Hazard

The only way to contain the economic damage of a financial fire is to put it out, even though it’s almost impossible to do that without helping some of the people who caused it.

Ben Bernanke, Henry Paulson and Timothy Geithner, on their policy responses to the GFC

Moral hazard is a common economic term used to define human behaviour when people get incentivised to take more risks for greater profit at the expense of the other party. Another term for this is the ‘principal-agent problem’. For example, if I have health insurance I have the incentives to be more careless with my health, assuming the insurance company will bail me out when I need heart surgery based on my heart attack. It’s the problem of taking more risk when you are not as personably liable.

On similar grounds, beginning with the Federal Reserve Chairman Alan Greenspan, central banks intervened in the economy whenever there was a downturn in the stock market. In contrast to health insurance where there is a risk premium demanded by these companies, what Greenspan did was essentially bail out investors and financiers for free repeatedly. Under Greenspan, the Federal Reserve intervened by lowering the Effective Federal Funds rate during the 1987 stock market crash, the 1994 Mexican peso crisis, the 1997 Asian Financial Crisis, the collapse of Long Term Capital Management and the dotcom bubble in 2000 (Rudd, 2009). By easing monetary conditions whenever there was a downturn, he propped up the stock market and economic activity. Essentially, the Fed was providing free insurance to investors. During his reign between 1987 and 2006, he was world renowned for presiding over the ‘Great Moderation’ period of moderate economic growth, low unemployment, low inflation and ‘managing’ the global economy well.

But if you continue bailing out the people that fail, they are more likely to make riskier decisions, assuming a massive profit by taking that risk. Why wouldn’t they!? The Fed had their backs. The higher the S&P 500 went, the more riskier investments they made. We see this in the growth of new financial products in the likes of subprime mortgages market (Mortgages lent to people that do not have the collateral, capital or employment to buy homes, but loaned out on the basis of higher risk. These were sliced and diced into non-risky assets into the form of Collaterized Debt Obligations) and credit default swaps (financial instruments purchased on the assumption that other parties will fill for bankruptcy, which is essentially a bet) during this era. This was a timebomb in the residential sector that was bound to fall, but for the medium term, as long as house prices continue to go up, things looked rosy. Then the global financial crisis happened beginning in 2007.

The Road to High Government Debt Levels: GFC 2007-08

New Zealanders might recall the tumultuous period during the 2007-08 GFC. The fall of Lehman Brothers and other financial institutions across the stock market left investors in panic mode. The financial ‘cancer’ of subprime mortgages and CDOs spread to the entire global financial system. Banks such as Northern Rock in England faced bailouts from the British government and the Bank of England. With the help of the Federal Reserve, the United States had to spend USD$1.5 trillion in bailouts and tax cuts to stimulate the economy and stir away from the global recession. It was a transfer of a banking crisis into a public debt crisis.

Alongside the Federal Reserve in the United States, other central banks – such as the ECB, the Bank of England and the Bank of Japan – begun the process of what economists call quantitative easing (the printing of money) and reducing their interest rates to low record levels. This was to save the economy from falling into further recession.

Millions of people lost their homes, life savings and their livelihoods. Many people became unemployed and lost jobs – some even permanently became redundant. It was an extremely unpleasant sight at the time. Alan Greenspan’s reputation had tarnished completely.

It affected the New Zealand economy as well. NZ unemployment jumped from 3.6% in 2007 to 6.1% by 2010. As a response, under both the Fifth Labour government and Fifth National government, we pursued fiscal stimulus programmes. Thanks to our prudent fiscal measures beginning in 1994 to 2008, we were able to respond well. Under John Key’s National government, our government debt levels went up from 5.4% debt to GDP in 2008, to 25.4% of GDP by 2014. The Reserve Bank under then- Governor Alan Bollard dropped interest rates by 5.75% to stimulate the New Zealand economy (Bollard and Ng, 2012). New Zealand did not need to pursue quantitative easing.

According to Ben Bernanke (the former Federal Reserve Chairman and successor to Greenspan), it was imperative for policymakers in American ‘to do everything it takes’ to stop the world economy facing a modern ‘Great Depression’. They bailed out financial institutions bound to fail, they provided liquidity to the US Treasury by purchasing government bonds and rapidly expanded their balance sheets. The total assets of the Fed increased from USD$1 trillion to USD$2 trillion by 2009, and the Federal Funds rates at 0.75 as indicated in Figure 1.

Figure 1:

US Federal Reserve, “Credit and liquidity programs and the balance sheet,”

Under Obama, the US Federal government pursued fiscal stimulus programmes such as the American Recovery Reinvestment Act of 2009. This programme alone added USD$840 billion to the budget deficit. As indicated Figure 2, the federal debt held by the public ballooned from 35.7% in 2008 to 75.9% of GDP by 2017, which is more than double before the GFC.

Figure 2:

US Federal Reserve, “Federal Debt Held by the Public as Percent of Gross Domestic Product”

Other economies such as The European Union, the United Kingdom, Japan and other developed economies spent their way out of the problem. The banking crisis originating in American transformed into a public debt crisis across the developed world (except for fiscally prudent nations such as Australia and New Zealand), culminating into a sovereign debt crisis in Europe – also known as the 2011 Euro crisis.

The GFC revealed excess public borrowing. Countries in Europe such as Greece, Portugal, Ireland, Spain and Cyprus were unable to repay or refinance their debt obligations to their bond holders. Many looked to other European Union member states for financial assistance or even bail outs. An extreme example is Greece. The small Southern European country received series of 100 billion euro bailouts from the International Monetary Fund and the European Union (Voigt, 2012). Germany was the most generous of lenders. Yet despite this, Greece defaulted in 2015 (and is currently barely staying afloat with Greek government debt levels remaining well above 100% at 210% of GDP as of 2021). Many European economies are also floating along thanks to the financial support from prosperous economies such as France and Germany, and low interest rates from the European Central Bank.

Figure 3 shows that governments have been induced to borrow more as interest payments continue to decline. The European system is not healthy by any means. Debt levels and leverage are far too high, encouraged by central bank intervention and help from other countries.

Figure 3:

Euro zone general government net interest cost and financial liabilities (OECD, 2021).

In conclusion, the responses to the GFC saved the global economy facing an economic depression. However, this came at a cost. The banking crisis turned into an inevitable public debt (or sovereign debt crisis). In the United States, public debt continued to accumulate with little indication of deleveraging or fiscal restructuring. Meanwhile, Greece created political and economic turmoil in Europe, amalgamating into populist sentiment in Europe. With the Brexit vote in 2016, the European Union and the euro currency’s future remains uncertain.

If the Greek default created such geopolitical turmoil, imagine what the circumstances would be if any of the major G20 economies face financial trouble. In addition, the initial quantitative easing from central banks restarted the economy following the GFC, but it incentivised governments, households, companies to all take more debt rather than less. The world essentially buckpassed the financial crisis to the future as a short-term band aid. Then in 2020, Covid-19 hit the world starting in Wuhan, China, forcing governments and central banks to make drastic decisions.

The Fiscal and Monetary Consequence of Covid-19

The supply shock to the global economy came from a pandemic. Governments and central banks again took swift decisions. The fiscal and monetary responses to Covid-19 were very similar to the GFC, except the scale and size of the quantitative easing from central banks and deficit spending of governments were far larger. For the Euro zone the average gross financial liability levels were close to 120% of GDP. The United was 141% and the United States was 146%. Under President Biden, the US Federal government’s fiscal deficit was 15.9% of GDP for 2021. For the Euro zone on average it was 7.2% and New Zealand was 4.2% deficit (OECD, 2021). Before in 2008, the ratio of global household, corporate and government debt to GDP was 280%. As shown in Figure 4, in response to the pandemic, in 2020, this ratio had grown by 75% to 355% (IIF, 2021). The world has now mortgaged our future by getting into more debt now.

Figure 4:

Global Debt Monitor: COVID Drives Debt Surge—Stabilization Ahead? (IIF, 2021)

Governments around the world have never spent this much money in response to a pandemic in peacetime. The deficits created during the 2007-08 GFC look miniscule in comparison.

In monetary policy, the central banks have pumped more money and liquidity into the system than ever before, shown in Figure 5. ‘Trillions’ are being swashed around the global financial system (For context, 1 trillion is five and a half times New Zealand’s GDP). Bank rates are now virtually zero around the world – see Figure 6. The banks have little firepower left to tackle another financial crisis later down the track. Monetary policy has become less effective as a result of all of these responses beginning from the GFC.

Figure 5:

Consequences of quantitative easing (Yardeni, 2021).

Figure 6:

How should recessions be fought when interest rates are low? | The Economist
The Economist: “How should recessions be fought when interest rates are low?”

When the United States and the rest of the developed world entered zero-bound rates during the GFC, former Bank of Japan Governor Masaaki Shirakawa noted that when Japan was adopting zero bound interest rates and quantitative easing policies beginning in the early 1990s, he never expected other countries such as the United States to follow suit (Shirakawa, 2014). Yet, other central banks did, and they all entered a road of no return.


The global economy has entered a cross road, unable to turn back towards a period of relative normalcy. Starting with the fiscal and monetary responses to the GFC, governments have accumulated record debt, and central banks lowered its rates and printed money to stir the economy away from prolonged recessions. We have kicked the can down the road to an even more precarious future.

Both governments and central banks are stuck into a corner. Governments’ cannot stop spending, because otherwise unemployment rates would erupt; central banks cannot lift rates for the fear of sovereign default and collapses of heavily indebted companies. The public cannot stop buying inflated assets with the ‘fear of missing out’. Rising inflation and low interest rates incentivise people to stop saving and risk their future wealth through speculation. All of these government responses create bad incentives across the whole global economy.

On monetary policy, the late macroeconomist John Maynard Keynes wrote in 1936 that “If, however, we are tempted to assert that money is the drink that stimulates the system to activity, we must remind ourselves that there may be several slips between the cup and the lip.”

The effectiveness of monetary policy has now been nullified with rates close to zero percent. What can central banks do to respond to the next crisis? Bailouts? Further quantitative easing? Economists cannot predict the future, but we can anticipate risks from recent trends.

Contemplating that future is bleak. The era of normalcy following the end of the Cold War seems like a distant past. The period of ‘normal’ interest rates and sustainable debt levels seem implausible at this stage. The trends have been towards more debt, lower rates and more money printing. What will governments and central banks around the world do? And more importantly, when will this madness end? We will soon find out in the near future.


Alan Bollard and Tim Ng, “Learnings from the global financial crisis,” Sir Leslie Melville Lecture, Australian National University, Canberra (9 August 2012).

Alan Rappeport, “As debt default looms, Yellen faces her biggest test yet,” The New York Times (23 September 2021).

Bill Dudley, “The Fed Is Really Running Out of Firepower”, Bloomberg (28 October 2020).

Emre Tiftik and Khadija Mahmood, “Global Debt Monitor: COVID Drives Debt Surge—Stabilization Ahead?” Institute of International Finance (17 February 2021).

International Monetary Fund. “IMF Public Sector Balance Sheet Statistics: Database.”

Kenneth Rogoff and Carmen Reinhart, This Time is Different (Princeton University, 2009).

Kenneth Rogoff and Yuanchen Yang. “Has China’s Housing Production Peaked?” China & World Economy 29:1 (2021), 1–31.

Kevin Rudd, “The Global Financial Crisis”, The Monthly (February 2009).

Kevin Voigt, “Eurozone approves new $173B bailout for Greece,” CNN (21 February 2012).

Mark Dittli, “Central banks keep shooting themselves in the foot,” Interview with William White, The Market (6 November 2020).

Masaaki Shirakawa, “Is Inflation (Or Deflation) ‘Always and Everywhere’: A Monetary Phenomenon? My Intellectual Journey in Central Banking,” BIS Paper 77e (2014).

Matt Egan, “‘Financial Armageddon’. What’s at stake if the debt limit isn’t raised,” CNN Business (8 September 2021).


Ryan Banerjee and Boris Hofmann, “Corporate Zombies: Anatomy and Life Cycle,” BIS Working Papers No. 882 (2020)

Ryan Banerjee and Boris Hofmann, “The Rise of Zombie Firms: Causes and Consequences,” BIS Quarterly Review (2018)

The Economist: “How should recessions be fought when interest rates are low?” (21 October 2017).

US Federal Reserve, “Federal Debt Held by the Public as Percent of Gross Domestic Product.”

US Federal Reserve, “Credit and liquidity programs and the balance sheet.”

William White, “It’s Worse than ‘Reverse’: The Full Case Against Ultra Low and Negative Interest Rates,” Working Paper No. 151 (New York: Institute for New Economic Thinking, 2021).

Yardeni, and Mali Quintana. “Central Banks: Monthly Balance Sheets” (Yardeni Research, Inc. 2021).

Human misjudgement of experts

The process of decision-making is complex. Furthermore, its significance transcends both the private and public sectors, and is crucial not just in politics.

Some believe that if everything were left to the smartest people in the country, things would turn out exactly the way we planned. Experts would be able to handle everything.

But is this always the case?

Not always. American writer David Halberstam explores this hypothesis in his book ‘The Best and the Brightest’. He delves into the foreign policy decisions made by those in the Kennedy and Johnson Administrations.

Harvard’s ‘whiz kids’ were the brains of the government. The list included the brilliant Defence Secretary Robert McNamara, an executive with excellent business credentials, and Air Force Secretary Harold Brown, an expert in nuclear physics who has a PhD.

Members of the Cabinet and Advisory Board possessed outstanding industry experience or were highly regarded academics. They oversaw reshaping US policy in Vietnam. 

Nevertheless, these men ultimately failed. Although they spent over $1 trillion in modern dollars, they didn’t contain Communism.

Since the rise of Mao Zedong in China, they were convinced about the ‘domino theory’ of the spread of Communism. If it spread to one country, it was pervious to others surrounding it.  

It was an oversimplification. Vietnamese national circumstances were ignored – they simply sought independence. Vietnamese retaliation was particularly strong due to the prior experience of French imperialism.

During the period 1965-1975, the US government deployed 2.7 million soldiers. More than 7.5 million tons of bombs were dropped – twice as much as during the Second World War.   

The greater their investment, the lower the return. Mentally, the ‘sunk cost’ fallacy kicked in, increasing military and financial investment in Vietnam. The Kennedy and Johnson administrations wasted a great deal of resources due to the misjudgement of ‘experts’.

Halberstam described their efforts in Vietnam as “brilliant policies that defied common sense”.

On similar grounds, renowned investor Charlie Munger talked about recognising patterns as a way of understanding how humans behave both rationally and irrationally. Perhaps McNamara and Brown would have made a different decision had they considered the alternative.

Confirmation bias of elites leading to the double-downing of the policy that was doomed to fail. As economist Thomas Sowell once quipped, “The road to hell is paved with Ivy League degrees.”

Halberstam concluded that simply featuring ‘the best and brightest’ people on your team does not guarantee success. It’s not an indication that they can make sensible decisions without falling into fallacies. 

How Robert McNamara Came to Write His Memoirs About Vietnam | Time
Robert McNamara and President Johnson

Politics Taking Precedent over ‘Policy’

Over the course of the last two years in Wellington, I have come to realise something. Many people enter politics with the best of intentions, however, they end up becoming a part of the system. In my opinion, the majority in the House of Representatives place poll numbers ahead of effective governance and public administration. And this is failing the public. There appears to be no vision, let alone a direction, for the future of Aotearoa New Zealand from either the government or Opposition.

Those who know me well will recall that I campaigned for Labour four years ago, and at the time I was genuinely enthusiastic about Jacinda’s message of hope, change and progress. I was proud to be part of a movement that fostered change. Solving the problems surrounding the housing market, inequality, education, health, well-being, and climate change was a moral imperative for me.

The Labour Party is now in power. But how well have they done on objective metrics such as Housing? With the exception of our crisis management – such as our containment of Covid-19 – they are worse.

In the past year, house prices have increased by 32%. The inequality gap in wealth and income worsened under the current government than under any of the previous three governments combined. PISA rankings in Math, Science, and Reading have all fallen significantly. We have inadequate public health measures due to a limited number of intensive care units, and our doctors and nurses are not receiving the salaries they deserve. Meanwhile, the Ministry of Health bureaucrats have more money in their coffers without delivering any meaningful results. In spite of government commitments to spend billions on mental health, the situation continues to worsen. With regard to climate change, our oil and gas ban has caused market externalities – we burn more coal to generate electricity, which resulted in higher emissions. This is utterly unacceptable.

Politicians always claim in the media that they tried their best. In a company or in the private sector, if this was the performance result, they would all be severely questioned by the Board of Directors. However, in politics, there is no direct accountability. Failures are not grounds for dismissal, except for the voting system every three years.

However, one of the reasons for government failures have to do with the lack of competition. Currently, the Opposition is in disarray. Instead of proposing public policy solutions of their own, they are fighting among themselves. There is little incentive for the leading party to push for positive change when they are dominating the polls without much being achieved. Essentially, there is no need for them to perform better. Furthermore, the quality of politicians throughout the House is abysmal. The fact that the Minister of Justice, Kris Faafoi, had to remain in politics – despite wanting to leave – tells us much about the lack of talent within the party.

Personally, I really don’t care who is in charge so long as the performances are excellent. In a similar manner to when the CEO of a company changes, where outputs and profits stay high. For this to occur in our political system, we must cultivate more competent and talented individuals across the political spectrum. We need people that care more about ‘policy’ not ‘politics’ in the future. This is essential to the economic growth and well-being of the country.

It matters for all of us.

The West’s Departure from Sanity

Kabul, Afghanistan, recently attracted global attention. Biden Administration’s hasty withdrawal was harshly criticized globally. Many allies viewed this humanitarian disaster as undermining the credibility of the West.

The situation in Kabul is unjust. Nevertheless, we cannot forget the fundamental cause of this catastrophe in the first place. It began with the West’s dogmatic geopolitical approach after the Cold War.

The West lost its sanity following the end of the Soviet Union. Numerous efforts were then made to forcefully spread liberal democracy throughout the globe. The decision was a terrible policy idea. Western reputation was ruined, trillions were wasted, and global democracy is in decline.

The fall of the Berlin Wall in 1989, led to the belief that the West was destined to lead the way towards a more liberal world. As part of the Third Wave of democratisation, liberalism also reached Eastern Europe.

The Cold War victory over the Soviet Union led to complacency on the part of the United States. Policymakers responded to Francis Fukuyama’s ‘End of History’ thesis with greater fervour. Inadvertently, this hypothesis empowered Washington and the Pentagon.

A fundamentalist turn was observed in foreign policy. Overconfidence led to exuberant confidence. The idea that any nation could be socially engineered into a liberal democracy.

Military intervention became more mainstream. By doing so, dictatorships would be overthrown, regimes would change, and democracy would be introduced. It was ideology rather than diplomatic history that shaped foreign policy.

The liberal internationalists and neoconservatives began to dictate policy in Washington. Stephen Walt coined these ideologues ‘the blob’ in the foreign policy establishment.

In the wake of 9/11, President Bush began the War on Terror. The Bush Doctrine led to regime change in many parts of the Middle East. Intervention in Afghanistan in 2001 and Iraq in 2003, led to the installation of new governments supported by the United States.

But instead of transforming into liberal democracies, the two nations ended up fighting civil wars. The overthrow of dictatorships such as Saddam Hussein and the Taliban led to anarchy.

Domestic order was impossible with a legitimate government. The practice of beheadings, violence, and Islamic extremism has become prevalent under Al Qaeda.

The Obama Administration failed to learn from Bush’s mistakes. In 2011, a Libyan intervention exacerbated the chaos in the region. A vacuum created the refugee crisis in 2015, which triggered mass migration into Europe. This fuelled national populist sentiments across the European Union.

Evidently U.S. international reputation and credibility were damaged. Political scientist John Mearsheimer viewed these interventions as “never-ending wars”. He knew it was bound to fail.

Without an understanding of local institutions and cultures, it is virtually impossible to build a nation. Lee Kuan Yew, Singapore’s greatest nation-builder, thought America’s policies were ill-founded.

He viewed the Middle Eastern nation-building as impossible. In 2009, he said, “I see imbroglios in Iraq and Afghanistan as distractions.”

Ultimately, he was right. The United States has spent more than 6.4 trillion dollars in both countries over the past two decades. A total of 7,000 American soldiers, 177,000 local officials, and countless innocent civilians were killed.

And liberal democratic values have declined worldwide since the Cold War. Freedom House reports in 2021 that global freedom has dropped for 15 consecutive years – a “democratic recession”.

The mistakes by the United States led to a world order less liberal and more authoritarian. The balance of power in the international order has started shifting towards Asia. The liberal West is currently on the defensive.

The United States continues to be distracted in the Middle East. An emerging superpower grew militarily and economically during this period. China is now a peer competitor in the international system to the United States.

During this period, China did the opposite of the United States. Since its conflict with Vietnam in 1979, it has not entered a single war. China concentrated primarily on its economic growth and development.

Deng Xiaoping led the Chinese government into the international economy. With a new diplomatic relationship with the United States, China opened its doors to foreign investment. In 2001, China joined the World Trade Organisation.

China increased its investment in public infrastructure, including roads, bridges, and cities. Thus, real GDP increased by an average of 10% from 1979 to 2010.

To build its technological capabilities, the government reverse-engineered Western products. Its technological capabilities have been enhanced through joint ventures with western companies.

The Chinese government has modelled its style of governance on that of Singapore. Meritocracy was at the centre with a technocratic approach to public policy. Consequently, a new system of governance was conceived, based on standardised testing and performance-based results.

They focused primarily on technical expertise, such as science, engineering, mathematics, and economics.

In the meantime, the West has cooled on meritocracy. Long-term, this poses a significant problem. According to the OECD, meritocracy is of critical importance for social mobility and economic growth.

However, many institutions in the West have become hostile to the meritocratic ethos. Adrian Wooldridge of The Economist deplored the West’s departure from meritocracy. He asserted that “flawed systems to promote equal opportunity should be reformed, not replaced by quotas and a grievance culture.”

The gradual departure from meritocracy is not conducive to strong economy growth. Nor can the West remain distracted in nation-building projects. Otherwise, it will continue down the downward spiral in its international reputation. These trends have harmed the global liberal movement.

If the West does not change its course, the Chinese will become number one. When one considers that China is becoming a larger version of Singapore, it is imperative that the United States wake up.

U.S. withdrawal from Kabul did not harm the reputation of the West. Through its fundamentalist approach to foreign policy, it shot itself in the foot. Kabul’s fall is a symptom of the inherent problem, not the cause. Foreign policy goals must be achieved through realpolitik strategy, not ideological dogmatism.

Final US soldiers in Afghanistan do some last-second nation-building on  their way to the plane | 711web

Yes, there is intergenerational inequality on Housing

House prices have risen to all-time highs. According to the Real Estate Institute of New Zealand, prices have risen by 30.6 percent in the last year. We’ve seen record high housing prices for fourteen months in a row.

A housing crisis? It’s more accurate to call this as a “housing catastrophe.” For many young people, attaining the Kiwi Dream is now close to impossible.

Anecdotally, there have been many reports of growing intergenerational inequality between the young and the older generation because of continued price inflation. Is this, however, supported by empirical evidence?

According to Statistics NZ, the average annual income of today’s Generation Z is $45,188. In 1998, the average annual income for Generation X was $22,256. In nominal terms, incomes have merely doubled.

Conversely, national median house prices have risen from $164,167 to $826,000 over the same time period. Prices have soared by fivefold. Prices in Auckland and Wellington are approaching $1 million.

In 1998, house prices were about 7 times the gross income for Gen X, today for Gen Z, it is 18 times. Buying a home today is significantly more difficult for Gen Z than it was for Gen X in 1998.

According to Demographia International, from the late 1950s to the early 1990s, the median property price was only two to three times the average annual household income. This figure is now 8.6.

As far as housing is concerned, the data shows that our parents and grandparents had it far easier than Generation Z today.

Back then, it was possible to buy a home with just a single source of income. Today’s couples and spouses must both work to cover their housing cost, whether that is rent or a mortgage.

It may be true that the older generation had higher mortgage rates due to higher interest rates during the 1980s. But mortgage rates have little bearing on the affordability of a home. Even though new buyers today may face trouble with higher interest rates later.

House prices at all-time highs are detrimental to our economic prosperity. A more affordable housing market with lower rent prices is associated with greater social mobility. So far, this tradition has dwindled.

For a variety of reasons, housing affordability has deteriorated. Restrictive planning laws, poor incentives for local councils, local obstructions to urban development, and the Reserve Bank’s monetary responses to Covid-19 fuelled the fire. However, the main reason for this is a lack of housing supply.

House prices have skyrocketed, preventing young people from realising the Kiwi Dream. It’s time we change that.

Clarke and Dawe in 2021

My article in the week’s Insights newsletter. It is a #3, the third item in the newsletter which is always an attempt at humour. You can sign up to our weekly newsletter here.

One of the finest shows on economic affairs was ‘Clarke and Dawe’. The two satirists collaborated from 1989 until John Clarke’s death 2017. If only this partnership were still around in the era of Covid-19 and quantitative easing. I miss their satire.

So how would Clarke and Dawe explain the current global economic recession today? I wonder…

BD: Thanks for joining, you’re a macroeconomist, correct?

JC: A pleasure to be here. Yes, I am indeed.

BD: As a response to Covid-19, quantitative easing (QE) was used by central banks. How does it work?

JC: Well, it starts at a desk in a central bank. You take the computer out of box, press buttons, click enter. You alert the banking sector and the Treasury, send both an email, and press copy. You buy bonds and send money.

BD: And why did central banks start QE? Isn’t that ‘counterfeit money’? You can’t just print money at will.

JC: They print it digitally. You press buttons with more zeros on the computer – Boom! New dollars, just like that. It’s a free ATM machine, just bigger.

BD: But there is no free lunch, though? What are the financial implications?

JC: Potential inflation, consumer prices could go up. The more money you print like Zimbabwe, the poorer you become.

BD: What do macroeconomists do?

JC: We talk about economics without stories. It’s up, down, left, or right for unemployment, CPI, inflation, GDP etc. Straightforward, really.

BD: Correct, and what about government debt globally?

JC: They’re broke. Particularly the Europeans, the Japanese, and the Americans. Debt levels are above their entire annual economic output.

BD: Right… so what does that mean?

JC: No money. Broke economies were being lent money by other broke economies, but now they are all broke. The only lenders are central banks. It’s a last resort, so to speak.

BD: My goodness. The digital printer machine is out of control, and governments are broke. What’s the next step you think?

JC: Another bail out from central banks, probably. And then a bail-out of the central banks, most likely by themselves.

BD: Correct, an ongoing merry-go-round. Is this sustainable?

JC: Yeah, we might as well be entering clown world.

BD: Correct. That’s a grim end to that story. Thank you for your time.

JC: My pleasure. Oh, I better check the gold price. And where did I leave the key to my safe deposit box?

Mr John Clarke — Clarke & Dawe
Clarke and Dawe

The Hell of Good Intentions – Climate Change

Far too many times across history, I’ve seen and read about policymakers causing blunders. At every step, most people utter the claim that they have ‘good intentions’. Well, as Samuel Johnson quipped, “hell is paved with good intentions”. This applies to both sides of politics.

We see the classic example on climate change. Indeed, we have the moral obligation to do everything we can to lower our emissions and achieve net-zero by 2050 (the earlier the better for me). The centre-left so far failed despite the good intentions, and the centre-right under National refused to put the agriculture sector into the ETS (explained later).

The centre-right did very little with the global issue when they were previously in government. Under the National government (2008-2017), the Emissions Trading Scheme (ETS) prices dropped with a ‘flexible’ cap, not binding like now; NZ maintained the status quo for climate change. The agriculture lobby within the right of politics made the sector exempt from the ETS. This was a problem and still a problem for those that want lower emissions as efficiently and effectively as possible.

Nor have the current centre-left government made much progress. What really frustrates me is that both the Climate Change Commission (CCC) and government failed to make empirical cost-benefit assessments. According to Stats NZ, our emissions have not fallen but increased by 2% in 2018-2019. This is criminal. Our net emissions are actually set to increase, not decrease. Why?

Let’s start with the oil and gas exploration bans. This caused ‘substitution effects’ in the market – where one consumption of a good gets replaced by another due to higher costs. Consequently, we have a record high imports of coal into the country. The passage of the Zero Carbon Act in Parliament means nothing when we are failing to reach our targets. The energy market shifted towards alternative resources that emit more carbon dioxide in the air.

To give some credit, some good policy mechanisms have been introduced, primarily under Climate Change Minister James Shaw. We have a binding emissions cap within the ETS. This follows basic economic logic – having a binding carbon tax, or ETS, is the simplest and fastest way of lowering emissions. According to the Pigou Club – with renowned members such as Joseph Stiglitz, Daron Acemoglu, Kenneth Rogoff, Greg Mankiw, and Paul Krugman – such a scheme corrects market externalities. Fortunately, New Zealand leads the way with a binding cap now.

The starting point and main tool in lowering emissions should be with the ETS, not government pet projects. Spending millions of dollars on EVs and other government-led projects do not reduce our net emissions overall. It simply allows other market players to purchase carbon credits that will pollute anyway. If the government decides to lower its emissions, other people can pollute more because of the binding cap. According to Professor Hazledine from Auckland, the CC has not made it clear whether we are sticking with the ETS or a carbon tax. We should focus on improving the ETS and finding other technological, urban planning and public transport solutions to lower emissions.

Free trade agreements with a sustainable development framework is excellent too – Switzerland and Peru signed one with the first ever ‘carbon offset scheme’ which lowers net-emissions between both sides by finding comparative advantages of their respective economies. Peru finances sustainable development projects in Switzerland and takes credit for emission cuts.

Climate change is a global issue and requires our country to play its role. Efforts from all of us, but primarily the largest emitters such as China, the US, and India are also imperative – we live in a global village and all our actions have consequences. New Zealand is a responsible stakeholder in the international rules-based system. I remind people that we must stop becoming doctrinaire to the government’s intentions and focus on the effectiveness of the policy.

Lower emissions with cost-effective policies should be the goal. For example, imagine sending your broken car to a repairer, and he fails. Would you be happy if he gave you excuses and just said “I tried and I had good intentions”. You’d be like, “screw that, do it again, and get it fixed properly”. Similarly, good intentions mean jack-all when it comes to climate change. Some good work has been done, but a lot of the policies that have recently emerged will do very little to lowering our emissions.  

This is why fighting climate change is so urgent | Environmental Defense  Fund

“Invert, always invert.”

Recently, someone told me that my method of thinking drastically transformed. To be frank, that’s correct. I’ve become far more focused on empirical analysis of public policy and business. I’ve attempted to abandon ideology in ways of analysing problems and looking at them from different angles.

Renowned American investor Charlie Munger stated that we should “Invert, always invert: Turn a situation or problem upside down. Look at it backwards”. It is indeed a curse to be fundamentally ideological. It traps us from being able to solve problems practically. Unfortunately, many of us have fallen into this psychological fallacy.

In relation, people debate about whether the world is a social construct or an objective universe. How humanity is not entirely an objective place simply determined by facts and numbers. From my angle, both have important perspectives. Humans provide meaning to objects that create subjectivity within our observation of the world. Simultaneously, if you ignore facts and data, and only consider the intentions of people, we are being ignorant.

This is where I’d like to introduce the idea of the ‘half-glass empty/full’ analogy. The way you look at it determines how you subjectively view this object. A cup that is ‘half-empty’ sounds pessimistic albeit correct. ‘Half-full’ is optimistic but also sound. The thing is that both are empirically and logically objective, except the approach to the observation. I tend to view this as a good analogy of explaining the difference between liberals and conservatives; the utopian vs the constrained; yin and yang.

For example, let’s explore the hypothesis of income and wealth inequality (caused by hyperglobalisation). It’s objectively true that since the 1980s, the world has become both more unequal and equal – in different ways. According to Brookings, inequality between countries have gone down and 3.8 billion people have exited extreme poverty. Simultaneously, inequality within countries has gone up as countries became globalised, accelerated by lower tax rates, free trade and creative destruction of economies, fostered by technological innovation. This has unfortunately led to greater populism across western liberal democracies.

The point is that what we witness around the world is not as black and white as people think. On net balance, globalisation has been a fundamentally important part of human prosperity (Pinker, 2018). But the real problem is that policymakers have failed to consider the short-term unintended consequences of globalisation.

Therefore by inverting a problem or hypothesis, we can become better thinkers and participants of society. Consider different perspectives as a thought exercise. Don’t fall into the trap of political or philosophical ideology. Genuine empathy of different thought processes and intellectual curiosity can solve many of the world’s problems.

Get rich with Dogecoin

Recently, you have been really responsible with your finances. You stopped buying chicken paninis, cut back on the flat whites, and eating out at KFC. You put more money into a savings account.

Unfortunately, the reward for being financially frugal is a meagre 0.8% per annum of interest. After 2% inflation, you are losing money.

Not very satisfactory.

But, if you cannot build some long-term wealth in the bank, what else can you do?  

Well, let us explore a few options.

You could try housing. However, you’ll need to get a new mortgage and a substantial amount of deposit. It is also costly, with the average house price now exceeding $800,000. And that will only provide you with a 30% return within a few months.

But what if I told you that you could make a 900% return, no a 11,000% return in the same period?*

How about investing in Dogecoin! Yes, that meme dog cryptocurrency.

It started in 2013 as a joke Bitcoin alternative with a caricature of an innocent Japanese Shiba-Inu dog as its symbol.

Then, this year in February, Elon Musk tweeted about it, and Dogecoin took off to the moon.

A dollar invested when Elon tweeted is now worth $17.4 – Oh wow.  

Dogecoin is now worth $80.5 billion – worth more than companies such as Ford Motors, Honda and Adidas. Dogecoin was a joke about cryptocurrencies, but in an ironic twist, it became a wealth-creating digital asset.

In April 2021, a man named Glauber Contessoto gained notoriety for becoming a Dogecoin millionaire. We are supposedly living in a completely new era of unorthodox wealth creation.

Or perhaps it’s just a bubble. During the 1600s in Holland, multicoloured tulips became prized possessions. “Tulipmania” saw prices go crazy until it burst into nothing of substance. 

The folly of human speculation has always been there.

My generation particularly loves bubbles – look at GameStop, for instance. You can profit and still get a decent result on investment by selling at the right time.

No need to be financially responsible. Eat out, buy KFC and spend your remaining funds on the latest Dogecoin.

It will be fine as long as you are the last one out before the bubble bursts. Just short it. Easy peasy.

*Not investment advice

The Theory of Human Stupidity

Humans are complicated. We are intelligent species that dominated the world with our knowledge and brilliance. We built pyramids and skyscrapers, we went to the moon, and we invented Pokémon GO.

Yet, throughout human history, human stupidity has triumphed time and time again – whether it is communism and fascism killing millions of people, recurring asset price bubbles and their eventual bursts, or carelessness leading to environmental degradation. We never cease to stop causing unnecessary harm to ourselves or others.  

Stupidity applies on an individual level, too. We have dozens of cognitive biases, believe our own lies and feel good about it.

But is there something more systematic about human folly?

Italian economic historian Carlo M. Cipolla believes so. In his book ‘The Basic Laws of Human Stupidity’, Cipolla identifies four different kinds of people – stupid people, helpless people, intelligent people, and bandits.

As a group, stupid people are far more powerful than the Mafia and the Military-Industrial Complex because they actually drive and influence social outcomes. 

Cipolla found that the same proportion of people in any group tended to be stupid, even within the group of Nobel laureates or professors, or even blue-collar workers. The reality is that we have to face the same proportion of stupid people, no matter where we go or travel.

Everyone underestimates the effects of stupid people in action because it is not apparent. As a result, non-stupid people underestimate the damaging power of stupid people.

Intelligent people benefit themselves and society; bandits steal from others to benefit themselves; helpless people are exploited for their naivety despite contributing positively to society. However, stupid people are counterproductive to both their own individual and society’s overall interests.

Cipolla says that a stupid person is far more dangerous, especially if the individual was born into the elite class. Their total damage capacity is infinite within their potential position as bureaucrats, generals, and even politicians.

As stated by Yuval Harari, history teaches us that people must never underestimate the role of stupidity in human history. It is one of the most powerful forces around the world.

We cannot trust human decency and supposedly good human leadership to do what is best for humanity. We can only hope that is the case, but stupid humans could win at the end of the day.

The Basic Laws of Human Stupidity by Carlo M. Cipolla - Penguin Books New  Zealand