An Interview With Charles Goodhart

Weekly Commentary • Jul 10 2024
An Interview With Charles Goodhart
David McAlvany Posted on July 10, 2024
  • Inflation & Interest Rates Higher For Much Longer
  • Aging Population Is A Paradigm Shift
  • Your Best Investment Is In Skills For Your Children

“Now, I don’t see how the fiscal problems that we face can be met without a significant shift of taxation onto property. If that is so, then the valuation of housing will be cut back. And that means that until the tax rates have adjusted to a form which will make the fiscal system sustainable over the long run, there is likely to be reductions in housing and property prices. So, that’s not safe either during this transitional period. The only safe asset is actually human capital itself, and the best investment you can make is in the skills of your children.” —Charles Goodhart

Kevin: Welcome to the McAlvany Weekly Commentary. I’m Kevin Orrick, along with David McAlvany.

Well, we talked about this last week, Dave. Our guest is Charles Goodhart. And I’ll tell you, the thing that’s fascinating and really encouraging to me is a man with the history that he has, literally monetary policy, Bank of England all the way going back to the ’60s, is still sharp enough to be writing books that are really sharpening knives all around the country. I know that you love talking to people who stay engaged like Charles.

David: It’s one thing if you have a rule named after you. So, John Taylor, previous guest on the Commentary, he has rules named after him, but I think you’re in a different stratosphere when you have laws—

Kevin: When you have law.

David: —named after you. So, perhaps Newton’s Law qualifies Newton to be in that Masters of the Universe category. I think Goodhart’s Law gets him pretty close. From ’68 to ’85, he spent time at the Bank of England. And then from ’85 to 2002, Charles was an educator. He was teaching at the London School of Economics and taught both banking and finance.

This is a wonderful opportunity to re-engage. We had a conversation with Charles a number of years ago, and today’s conversation is based on The Great Demographic Reversal. Last week on the Commentary, we overviewed some of the main themes within the book, and today we dig into the details.

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Charles, towards the end of the book, you summarize this way. “If favorable demography and rampant globalization was largely but not wholly responsible for the faster growth and much of the lower nominal variables, inflation, and interest rates over the last three decades, then it simply stands to reason that the next three decades will see lower growth and faster inflation and higher nominal interest rates than recently.” That seems to be a decent summary of the direction you go in your book, The Great Demographic Reversal.

Charles: Summary is fine.

David: Okay, your two highest conviction predictions are, one, a significant rise in inflation will be an issue for a long time to come accompanied by wages. And two, you expect a rise in nominal interest rates. You also see an increase in productivity along with an increase in labor’s share of the economy. So, let’s dive into this thesis. Your thesis starts in China and continues there as an aging population reshapes the global economy. Connect the demographic glide path with those key economic impacts.

Charles: Well, the birth rate is going down everywhere except for Africa, and going down quite sharply, which means that the working population, its growth is going to slow, and in many countries is actually going to fall. It has been falling in Japan now for about a decade. It is now falling, and falling really quite sharply, in China. It’s beginning to fall in Western Europe and North America.

The only thing that is holding the working population stable at the moment in North America and Europe is immigration. And immigration has actually increased more than we expected when we wrote the book. It’s increased a lot since COVID was beaten.

And one of the problems, the great uncertainties about the future, is what is going to happen to migration. As everyone knows, the right-wing populists have campaigned strongly to try to reduce the rate of immigration, perhaps quite sharply, as true in America. It’s true particularly in France. It’s been true in many countries in Europe.

If immigration is cut down as right-wing populists would want, that will raise inflation really quite sharply. If [immigration] rises sufficiently to hold inflation down, it will continue to cause social and political problems. Either way, the question what is going to happen to immigration into the advanced economies is going to be a key issue for politics and for our countries over the next decade at the least.

David: Immigration has become actually a losing issue for the far left and a winning issue for the far right. Looking at the blue-collar workers, does this really help us understand why this is the case?

Charles: Yes. Because of what’s happened over the last three decades, the blue-collar workers have had very little increase in their real incomes, and they’ve seen the asset values—the houses, the equities, the bonds held by the rich—go up really very sharply, so they feel aggrieved. And what they see is a large increase in immigration competing with themselves, and they add two and two, and say that if only there was less migration, we’d be doing rather better.

For a variety of reasons, I think that that line of argument is oversimplified, but nevertheless it is politically very important, and it has played a major part in setting the political canvas that we see unfolding before us in Europe, as is true particularly in the current French elections, as it is and has been in the United States.

David: Coming back to China, it seems to have been uniquely positioned to absorb technology and administer growth if you’re looking back at recent decades. Not easily duplicated, is it? Could anyone today substitute for their mercantilist growth model fed by underutilized labor?

Charles: I rather doubt it. The country where there is now a massive surplus of working-age people—or the continent, rather—is Africa. The difference is that in China there was an effective central government, a single central government, a fairly cohesive group of inhabitants, and they over the centuries have had a skilled and intelligent workforce.

In Africa, you have far too many countries which are not particularly cohesive. Many languages. A lot of internal problems within the countries. I think of the civil wars in Ethiopia and Sudan at the moment, the problems between per se Rwanda and the Congo, and the level of education is not anything like as good as it was in China.

So, I think that it is very unlikely that Africa can replicate China in becoming the workplace of the world. I think that it will do much better over the next few decades, but I don’t think it can in any way replace China. And some of the problems are also evident in India, with very different provinces in India, political differences between them, central government is less strong, and they have focused much more on services than manufacturing—though one of the future developments that I think will occur is there will be much more international outsourcing of services. I don’t think that it can, for various structural reasons, match the outsourcing of manufacturing, which went so strongly to China and indeed to Eastern Europe in recent decades.

David: One of the core aspects of your book, you say the world’s labor supply doubled between 1991 and 2018 in the advanced economy trading system. Your argument is that this influenced a globally deflationary input that is now in reverse. As the pool of labor shrinks, wages rise, and inflation with it. Help us understand this once, not just in a millennium, but really once in all of history event.

Charles: Yeah, and the years 1990 to 2020, those 30 years I think will stand out in history as unique, extraordinary, beneficial, and in the words of Governor Mervyn King, very nice. Non-inflationary continuous expansion in which a massive proportion of the world’s population which had been poor came out of poverty.

In China in 1990, something like, I can’t remember the exact figures, but it’s a high proportion of the population were poor by any standards. By 2020, virtually none of the population were poor. Something like two-thirds of the world’s poor population as measured by the standards of 1990 were removed from poverty by 2020.

It was a remarkable and very successful three decades in which I think successful policies, including central bank monetary policies, played a role, but it was a combination of successful geopolitics and the demographic trends that really produced it. And alas and unfortunately, they’re over, and the world isn’t going to be the same again.

David: So, we have the decline in birth rates. That’s a part of the issue. We also have longevity, which is a bit of a surprise. This is where your evidence really was a bit surprising to me. I always assumed higher levels of spending early in life. You show the highest levels of spending actually in the last 10 years of life.

Help us see what this means in terms of the fiscal situation that we have in the US, in the UK. For us it’s Medicare. For you it’s NHS. What does this look like? We haven’t changed retirement ages, and yet we have longevity as a greater concern.

Charles: When we wrote our book back about five years ago, we actually thought that the most important chapter in it and the most innovative was our chapter four on health. The problem with a longer life span is that as we get old, an exponentially increasing proportion of us become incapacitated, we can’t undertake the daily activities of normal living by ourselves, and the figures are really quite dramatic.

I’m taking the figures from the UK. Between 65 and 75, something like about 20% to 25% of the population have sufficient medical problems to be incapacitated. Between 75 and 85, it goes up to nearly 50%. After 85, it rises really very sharply. I am now above 85, I shall be shortly 88. The likelihood is that within four or five years, I will not be able to do, or live by myself, or do what I’m doing talking to you now, I will need help.

And the reason why there is so much expenditure by the old is because they need to spend money on, or they need to spend resources and take up resources from others to keep going. And medicine has done wonderful things in preventing early deaths. We are much better able to deal with heart disease and cancer than we used to be.

The proportion of people dying before they reach pensionable age has now reduced really very sharply. The problem is that medicine has not actually dealt with the problems of the old, dementia, arthritis, hip problems, Parkinson’s, and so on. And these are diseases that people don’t die from quickly. We all hang around and we have to be looked after, and that’s expensive. And it’s going to become increasingly expensive, and much of that expenditure, as you indicated, falls on the State, as you said, Medicare and NHS in the UK. And that is a crucial reason why the Congressional Budget Office and the Office for Budget Responsibility in the UK are both indicating that expenditures, particularly on looking after the old, are going to rise inexorably, which means that on present policies with present tax rates, and taking into account the problems of climate change and defense as well, the present fiscal position that we see in our countries is not sustainable.

David: I want to come back to some issues there that relate to interest expense and things like that in a moment. But one of the things that you do comment on in that chapter, “Dependency, Dementia, and the Coming Crisis of Caring,” is a shift in the personal life cycle and the impact of an aging population, not just on those who are aging, but on the carers. And I’d like for you to explore how much of an impact you see from that.

Charles: It’s very difficult to look after people without it being humans involved. And what the old really want is human empathy, and the empathy quotient of a robot is just about exactly zero at the moment. People are trying to make robots that mimic human empathy, but it’s pretty damn difficult, which means that an increasing proportion of a declining working-age population are going to have to be largely involved in looking after the old. I’ve heard some figures saying that something up to 20% of the Japanese working population will have to be help to look after the old in the very near future. So if you’ve got a declining working age population, and many of them have to help look after the old, it means you’ve got an increasingly small number of people able to produce the goods and services that we all need. And also, they’re going to have to be taxed in order to pay for the, if you like, semi-productive people who are looking after the old, and the old themselves. It’s going to be a very difficult and problematical future, demographically.

David: And one of the ways that you illustrate this is from a quote in the World Alzheimer’s Report: “A third of babies now born in Japan will live to be a hundred years old. The risk of dementia in a centenarian in Japan is 99%. Everyone has to understand, it’s my story, not your story. Cognitive decline is my story.”

There’s that other issue. We talked about the CBO and the projections of what is reasonable to be able to accommodate the fiscal pressures increasing from elder care and debt ratios becoming a serious issue. Layer on top of that the uptick in interest rates. Now to solve this, you mentioned taxation. Isn’t inflation a significant tool, not just a consequence, of these circumstances?

Charles: No, it’s not an agreed, democratically voted-for form of taxation. It is a form of taxation, but it’s a very arbitrary form of taxation, and is one that people have not agreed to. The problem is, of course, that nobody wants to be taxed. And so it’s very difficult to get an agreement on an increase in taxation. And again, one of the things that will need to be done is that the working age, not for all jobs, but for a wide range of service jobs in particular, will need to be increased. And yet you have the ridiculous result that the French right wing, the Popular Front, the RN, are actually suggesting that they’re going to try and reverse Macron’s attempt to raise the pension age by two years. And rather than reverse it and getting it going back to the level of 60, I think that it is going to be almost inevitable, in order to deal with the world as we see it, that most people will need to go on working until they’re 70.

David: And it is interesting that France and Italy, not in the greatest of fiscal positions, also have some of the longest average life expectancies. So what they’re suggesting, as you said, is in the category of practical absurdity. Coming back to China for a moment, low interest rates essentially were a tax on Chinese households. To what degree do you expect that version of financial repression to be utilized in advanced economies—letting inflation run a little hotter, but keeping low policy rates, effectively creating a negative real rate environment.

Charles: You can’t do that unless you have capital controls on movements of funds outside your own borders. Because if you try and repress your own financial system, and you have free movement of money abroad, people will simply send the money abroad and you’ll run into a balance of payments crisis very quickly. The reason that the Chinese could have a repressive system is that they have no freedom of movement of funds abroad. They have capital controls, pretty tight ones, and they have really a very autocratically controlled system, financially as well as in many other ways. And moving to a financial repression would mean giving up really quite a lot of our freedoms, as we did in many of our countries immediately after World War II. And I can remember as a relatively young person after World War II, when the amount of money one was able to take abroad, if one wanted to go to, say, France or Switzerland from the UK, one was limited, could take 50 pounds with one and not more.

David: Would capital controls be consistent with the theme of deglobalization?

Charles: Oh, yes, it could be. And if you have an autocratic system, you can introduce capital controls relatively easily, but it would mean a retreat from democracy, and it would mean a retreat from a great deal of the freedoms that we have at the moment.

David: There is this idea that we have a crisis of liberal democracy, and maybe that’s a different kind of crisis than you’re talking about as a theoretical starting point for capital controls. Where do you see the resolution? How do we resolve this crisis of liberal democracy?

Charles: That is a very good question. The honest answer is that I’m not sure that I know. It’s going to be very interesting to see quite how the right-wing populist governments, how they work, if and when they take power. My own view is that we cannot avoid having much higher public sector expenditures on defense, climate control, and the increasing burden of an aged and incapacitated population. Under those circumstances, the question then becomes, what taxation do we impose in order to balance the books? It’s not an enormous amount of extra taxation that we need. My feeling is that what we need to do is to shift taxation away from work and incomes, and put much more taxation on carbon usage. I’d like to see a carbon tax combined with a border adjustment tax to take account of the carbon elements in imports. I also think that we ought to tax property and land much more heavily, and income and profitability rather less. And I think we could do it. And I very much hope that the incoming Labour government in the UK will move in those directions.

David: What about a corporate tax that eliminates the possibility of geographic arbitrage?

Charles: Difficult to introduce, and one would need to be careful that an increase in corporate taxation won’t cut down on investment because if we’re going to maintain growth at all, we have to have encouragement for investment innovation and continuing actions to raise the productivity of a declining workforce.

David: You point out that we’ve got a situation where investment has been lackluster for some time. I don’t know if it’s the incentive structure in the vein of Andrew Smithers, but something’s not quite right in terms of our corporate structure today, even to encourage investment at what has been a more normal rate in the past.

Charles: Yeah, no, I agree with that. And we need to encourage investment. And I would like, as I think Andrew Smithers would like, the incentive structure on managers to be much more in terms of longer-run growth rather than short-run maximization of short-run profits and immediate increases in equity values. But it’s quite difficult to see exactly how one would move in that direction. And I have to say that I’m not a fiscal expert, and quite how one might change corporate taxation is a subject that I think I would rather leave to others.

David: One of the points you make is that dependents are inflationary. Why is the future of inflationary pressure not being anticipated if economists know the dependency ratio is set to rise?

Charles: It is being anticipated. As I said, the Congressional Budget Office and the Office for Budget Responsibility are laying this out really perfectly clearly. The problem is much more political. If you look at the political promises in almost any election, in the British election, the French election, in your forthcoming US election, all it is is in terms of taxes we will cut and expenditures we will increase. The problem is that it is extraordinarily hard to get people to accept that they themselves have got to face up to higher taxation. The line is always, “If there has to be higher taxation, let it be on somebody else, not me.”

David: Well, you’re right. It’s a political problem. Reading Kotlikoff’s concerns of a fiscal gap larger than $200 trillion here in the US, it seems like an increase in the retirement age is a step in the right direction. As you mentioned, in France they’re talking about reversing it, just a two-year reversal. Charles, could you send the memo, during the next credit crisis when the electorate is panicking, could we then move the retirement age higher, take advantage of circumstance perhaps to move the needle positively on that front?

Charles: I doubt it. What I am concerned about is that when the investors panic, because they can see that the fiscal position is not sustainable, that the politicians will turn to the central banks and say, “Well, why don’t you just go back and deal with this by buying up the bonds through quantitative easing, so that we’ll get an increase in the money supply, which will then feed through into higher inflation?” So that, as you said earlier, inflation itself is a form of taxation.

And what we will get is that the pressures in the bond markets may well feed through into pressures for higher monetary expansion, in turn leading to higher inflation. And you can see how that could have a built-in adverse dynamic effect. There are difficulties, and these are some of them. And alternatively, at some stage, if there’s a sufficient attempt to deal with the inflationary pressures, we could get the opposite. If the central bank is not prepared to support the bond market through its difficulties, you could get a really severe financial crisis. And it’s at that kind of point that we would have to have a major reconsideration of the structure and nature of our economies.

David: It’s been a lowering of interest rates, which has, to some degree, propelled asset price inflation. Now you see the potential for increasing interest rates. Doesn’t that argue for a softening, at least, of asset prices going forward?

Charles: Oh, yes. Oh, yes. I think that’s very likely. And I think that asset prices have, not all, but many asset prices are at a dangerous level. And the kind of rate of growth of asset prices, including property and housing prices, which many of us have had the benefit of enjoying over the last decades, including up to the very present, could well be coming to an end.

David: If you see that coming to an end, we already have, call it a small quantity of safe assets to diversify into. There’s a brief section in your book titled “Risk Aversion and a Shortage of Safe Assets.” And there’s the exploration of QE policies which have shrunk the pool of safe haven short-term government bonds. You also discuss the shrinking of credit spreads. Aren’t the QE programs at least indirectly responsible for driving that search for yield and the embracement of greater risk?

Charles: Oh, yes. And they were meant to do so, but it was all predicated on the assumption that the disinflationary conditions of the last 30 years would continue unabated forever. The failure of my colleagues as economists, in my view, was that they attributed the disinflation of the last 30 years to successful central bank policies, which they thought would continue into the far distant future. Whereas, although I agree that central bank policies have been pretty good, I attributed them—and in the book—and continue to attribute them to underlying structural factors, the demography, and the beneficial geopolitical developments, particularly with the arrival of China in the world’s trading system. And as these reverse, so the conditions will reverse. So I think that many of my colleagues just got it plain wrong.

David: So a bit of misattribution, or perhaps inflation of importance in terms of monetary policy. You anticipate a sharply steepening yield curve, which would accommodate short rates if they were set below the rate of inflation. What are the implications for corporate financing and for bank balance sheets in the event that you’re right about a steepening yield curve?

Charles: I think that, again, banks have got to be much more worried about interest rate risk than they have been in the past. Until now, almost the entire focus of financial regulation has been on trying to deal with credit risk, but interest rate risk is going to be with us to a much greater extent than it has been in the last few decades in the coming decades. Interest rates are likely to be not only higher, but much more variable. And that means that the idea that, at least long-dated government bonds are safe assets, will soon be—in fact already has been—shown to be incorrect. Banks will need to make sure that the duration of their assets is not that much greater than the very short duration of their liabilities.

David: There was a point in US history where government bonds were derisively referred to as certificates of confiscation. What would you consider to be a reasonable safe haven outside of government bonds?

Charles: That’s difficult. I’m not sure that there is a safe haven. What most people believe to be a safe haven is the value of their house. And remember that the value of housing has gone up really quite dramatically over the course of the last 30 years, or even longer. It’s very hard to remember a period when housing hasn’t been the best investment you can undertake. Now, I don’t see how the fiscal problems that we face can be met without a significant shift of taxation away from incomes and onto property. If that is so, and the tax rate on property rises really quite dramatically, then the valuation of housing will be cut back.

And that means that until the tax rates have adjusted to a form which will make the fiscal system sustainable over the long run, there is likely to be, at some stage and at some point, reductions in housing and property prices. So that’s not safe either during this transitional period. Which really means, I suppose, that the only safe asset is actually human capital itself: your skills, your abilities, and your willingness to use those skills and abilities in paid work. Which, in my view, is going to be doing better over the next few generations than it has over the last few generations. And the best investment you can make is in the skills of your children.

David: That is very similar to advice that Sir John Templeton gave many years ago, as one of the best investments that you can make is investing in yourself.

There is a comment in the book about wage and inflation stability between 1815 and 1914—I think those were roughly the dates—and I think were during the period of the gold standard at that point. I don’t get the impression that you’re particularly fond of gold as a safe haven. I am curious about gold as a safe haven, that would be one part of the question. The other part of the question would be, why are reserve managers today allocating to gold to a degree that we haven’t seen in many, many years?

Charles: Well, I’m actually slightly surprised that you asked that question, because the answer is very obvious. It’s the sanctions that the US has applied, notably on Russia, that mean that a country that doesn’t quite know what its position vis-a-vis the US is going to be, may be thinking of not withdrawing its money from the US, but diversifying. If at some stage it becomes not an ally of the US, it may still want to have some command over some reserves that will give it the ability to maintain its financial position, even if its ability to use US dollars is constrained.

The use of penal sanctions has its costs. And I think that a concern about the US using sanctions, financial sanctions, is part of the reasons why the central banks in many other countries, for example in the Gulf countries, in China, are diversifying somewhat into gold. And again, you asked about a safe asset. Gold doesn’t make you any money because it doesn’t bear any interest. But over the millennia, not only centuries, it’s millennia, it’s always maintained its very considerable value. So if you think everything else is going to be in difficulties, having a little bit of gold around you in the form of jewelry or gold watch, or whatever, has a degree of value as a safe asset in itself.

David: I feel that there would be an advantage to being born British in that sense. Because to own gold, if it’s made by the British government, you have no capital gains tax, which is something of an advantage.

You mentioned sanctions-free reserves essentially is the reason why central banks are moving towards gold. It seems to recall Alan Greenspan’s essay, I forget if it was in the late ’60s or early ’70s. “Gold and Economic Freedom.” Maybe purchase of gold by the central bank community or the reserve asset managers is just that, a reflection of maintaining economic autonomy.

A question about the US Treasury. Hindsight would suggest that the US Treasury should have extended their maturities a few years ago. How would you advise the Treasury today, as we are hitting maturity walls and needing to refinance well over $10 trillion in a fairly short period of time?

Charles: A good question. The current level of interest rates, both in the US and in Europe, are just about average over the last two and a half centuries. They’re neither that high, nor are they that low. And four and a half just about dead average. And that means that I don’t think that there’s any particular long run historical advantage at the moment in either to trying to shorten the debt, because interest rates are likely to come down over time, or lengthen it because interest rates are now low and will rise in future. I don’t think that the present level of interest rates around the world indicate a particular need for debt management to go short or go long. Whereas they should have gone, with hindsight of course, massively long in the period up to 2020. And of course, they did exactly the opposite on the mistaken assumption that low rates were here forever.

David: It points to the issue of taxation as a part of the solution. Current revenue, if you look at the percentage of revenue that’s being spent on the interest line item, it was 6%, it jumped to 9, surpassed 15, and now is knocking on a 20% figure. 20% of all tax revenue going towards just the interest on the national debt. It exceeded this last year our defense expenditure. And so if you are rolling over at these higher rates, this is a bit of an issue because of the quantity of debt that we have. So as you say, 4.5%, if it’s dead average, is one thing, but the amount of debt we’re carrying is not particularly average if you’re looking at it as where we were five years ago, 10 years ago, 20 years ago. We have leveraged up. How do we deal with this issue of being leveraged up? How do we deleverage the public sector at this point?

Charles: If you can’t cut the expenditures and you can’t not look after the incapacitated, you’ve got to keep up the defense expenditures because we’ve got a divided world politically. And we’ve got to deal with climate change. And that means that the only thing that you can do to deal with the worryingly high debt ratio and the excessively high deficits look to be coming down the road at us, the only thing that you can do is to increase taxation. It’s inevitable, but it’s politically highly unattractive. People do not vote for parties that say they’re going to raise taxation.

Which means that we’re in a world in which the politicians don’t tell the truth. And if they are going to be economically successful over the long run, have to do something when elected which they didn’t say that they were going to do beforehand.

Or, of course, you can destroy the welfare state and stop protecting the old. But with the very low birth rate, exactly how are the old going to survive? You see, in the old days, when the birth rate was still much higher, you actually expected the unmarried daughters to look after you in your old age. But take the one child policy in China, you’ve got one grandchild to look after four grandparents, and that just isn’t possible. With this sharply declining birth rate, you actually can’t go back to putting the old back into the care of their families because there aren’t families there to look after them. That’s why demography is going to make life so difficult.

David: Is there a scenario for the US public sector where, given short duration on debt and the pressures increasing—as you say, the untenable nature of cutting back on the welfare state, protecting the old, and the politically challenged option of increasing taxes—is there an increased probability or scenario where we experience a currency crisis?

Charles: Absolutely. Could easily happen. It depends how things work out. It’s going to need political leadership of the highest qualities to get us through the next 20 or 30 years.

David: We had the Plaza Accord in 1985, and of course, that was a super strong dollar set against other currencies. This is actually a scenario where currency crisis, we can make the case for that in the US with the US dollar, but you could make the case for that in Europe.

I don’t know that we’re quite to the level of crisis, but you certainly see deterioration in the yen. We’re on the edge. Of course, it’s a controlled scenario with the renminbi, but what does it look like to have a currency crisis that involves multiple currencies, not just one particular country?

Charles: Well, it could happen in Europe, and the Greek crisis back in 2012 was settled and the decline in interest rates helped that enormously. And if we’re going to have a right wing government in France which is very concerned about pressures on them from Brussels in the EU, we could have currency difficulties in Europe coming back to haunt us.

David: You lay out a number of solutions for a debt trap. Could you review a couple of those for us?

Charles: Well, as I said, I think that the one way out of the debt trap is to increase taxation of the kind I’ve indicated. Another way out is to have a massive inflation which gets rid of your debt, but undoubtedly causes you currency crisis. This can go on for some time.

When you say the thing is unsustainable, it means that at some point there will be a financial crisis, but you don’t never know exactly when. If you knew exactly when, one would make a hell of a lot of money, but I haven’t made it and it means that I don’t know when crises are likely to come. I know they’ll come at some stage, but when, I’ve no idea.

David: China—perhaps as the unique country of the countries that are over indebted—they, as you articulate, control both sides of the balance sheet such that jubilee, a debt jubilee or cancellation, might be possible there. Not sure it’s possible anywhere else. Have I understood that correctly?

Charles: [unclear] is much lower in China, but the demographic problems are much greater, but their welfare state is at a much lower level, so I really don’t know what’s going to happen as an increasing proportion of the Chinese population become old because the families can’t look after them because there aren’t enough grandchildren to do that.

And at the moment, the state isn’t really looking after them, and what is going to happen to a country when you have millions and millions and millions of old people who come back into abject poverty and a totally miserable way of life? I wouldn’t like to be getting old in China nowadays. I think the future for them is going to be quite difficult.

David: You might remember the quote, “No grief surpasses this, in the midst of misery to remember bliss.” Had the Chinese not had this experience of success, maybe it wouldn’t be so bitter to go back to poverty.

Charles: Yeah. And quite how they will deal with it I don’t know.

David: One of the things that I love about your book is that you have your thesis, and then you go about in each of the chapters addressing many of the objections that could be raised against the thesis.

And I wonder if you could address some of the objection of Japan being the standout of deteriorating demography for a long, long time, and yet some would argue it has not negatively affected them. How do you articulate a response to Japan?

Charles: I think there were two points that I would make. The first one is that Japan started to get old at a time when the rest of the world was running into a massive, almost excess of labor.

So that just as everybody transferred their manufacturing into China, so did Japan, so that they were able to take advantage of the surplus availability of workers in China and other parts of Asia, as did the rest of the world. You’ve got to think of Japan—as every other country—as part of a world system rather than purely in isolation.

The second thing that I would say about Japan is that they’ve done remarkably well, broadly speaking. They’ve had a decline in their workforce of about 1% per annum. They’ve had an increase in their GDP of about 2% per annum, which means that their output per worker has been going up at a rate of about 2% per annum, which is much, much higher than in North America and in Europe.

In other words, the increase in productivity per worker has been remarkably good, and that economic success has got them through a lot of difficulties. I think that is really the two main aspects of the Japanese experience that I would emphasize.

David: I thought the numbers that you shared were remarkable in terms of the outbound foreign direct investment and the increase in the number of affiliates and offshore employment through those affiliates, absolutely remarkable through that period. So I thought you dealt with the objection very well.

A question that I have, perhaps you could translate this into a more personal answer. You have been a policymaker, an influencer of policy in terms of monetary policy and central bank policy. You’ve taught at the London School of Economics for a long time, banking and finance.

As an individual, when you see the world, when you come to the conclusions that you have in this book, there is a set of policy decisions that have to be made. There’s also a set of individual decisions that have to be made. How do you respond personally to what you’ve concluded in the book?

Charles: I don’t actually think I have to respond personally. I’m going to be 88 in October, so my expected future lifespan is fairly limited. I tried to ensure that I have enough money so that I can be looked after as and when I become incapacitated in the next few years, which is highly likely.

My memory for names is, at the moment, declining notably. And I don’t know about others, but I didn’t really feel significantly impaired or old until I got into my 80s. Once you get into your 80s, you do actually notice the deterioration, and one has to ensure that one has enough funds, if possible, to enable oneself and one’s family to cope with the expected costs of increasing age span and incapacity that goes with it.

And if I had one real hope, it would be that medicine will be able to deal with the neurological diseases of the old, dementia and Parkinson’s. It’s not age as such that matters for the major fiscal and other problems, it’s incapacity that matters.

And if we could deal with the incapacity of the old, a lot of the problems that I see coming and hitting us down the road would be much less, and would almost evaporate if the old could live a healthy life without neurological problems.

Many of these difficulties I think would disappear, though of course many of the political difficulties and the dangers of climate change and the dangers of nuclear war would, of course, remain. But my great hope would be that medicine can deal with problems of old age and capacity.

David: I think my great hope is that in my 88th year, I am as intellectually live as you are. If your body matched your mind, you’d be ready for marathon. So I can appreciate the diminishment off of peak IQ, but you’re doing all right.

Smithers answered the question in an interesting way. He said, “I would minimize my market risk, preferring to take a small bit of inflation risk to market risk given the current valuation structure.” Of course, he loves Tobin’s Q and the cyclically adjusted price to earnings ratio. But just risk mitigation was how he answered the question. I appreciate your answer as well.

Charles, this has been a delightful conversation. Thank you for joining us again, I would encourage our listeners to get a copy of The Great Demographic Reversal. There are so many things that are taken for granted in the investment world, and these are foundational issues which, if ignored, will be of high consequence, and so we appreciate you bringing them to light.

We appreciate you bringing your decades of experience and intellectual weight to these topics for our benefit. Greatly appreciated.

Charles: I’ve enjoyed our conversation. Thank you.

*     *     *

David: You’ve been listening to the McAlvany Weekly Commentary. I’m Kevin Orrick, along with David McAlvany. You can find us at mcalvany.com, and you can call us at (800) 525-9556.

Kevin: This has been the McAlvany Weekly Commentary. The views expressed should not be considered to be a solicitation or a recommendation for your investment portfolio. You should consult a professional financial advisor to assess your suitability for risk and investment. Join us again next week for a new edition of the McAlvany Weekly Commentary.

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