Nikhil KamathThey Called The Trade Wars & China's Housing Crash | Nikhil Kamath | WTF is Finance Ep 4
EVERY SPOKEN WORD
65 min read · 12,541 words- 0:00 – 6:29
Introduction
- NKNikhil Kamath
[upbeat music] Matthew, as someone living in California, is the world turning left again? Are we going back to socialism?
- MKMatthew C. Klein
Uh, not in Ca- No.
- NKNikhil Kamath
[laughs]
- MKMatthew C. Klein
Actually, California, San Francisco is, is, uh, you know-
- NKNikhil Kamath
If I take San Francisco out of it.
- MKMatthew C. Klein
No. Well... Oh, well, uh, no, I mean [laughs]
- NKNikhil Kamath
[laughs] [upbeat music] Shouldn't debt be priced by the ability of the borrower to pay back?
- MKMatthew C. Klein
Right. But that's the, that's the thing. They can, they can. They can always print, they can always print the money.
- NZNing Zhu
The US can always print its way out of any kind of trouble.
- NKNikhil Kamath
[upbeat music] Question here. Is de-dollarization real? Do you think crypto has future? Can you wager a guess as to what will happen again in the next 10 years?
- MKMatthew C. Klein
Well, this is the interesting question, right?
- NZNing Zhu
Yeah, yeah.
- MKMatthew C. Klein
I'm talking about in theory, right? In practice, it doesn't work this way.
- NZNing Zhu
[laughs]
- MKMatthew C. Klein
That's, that's where it gets, that's where it gets tricky.
- NZNing Zhu
Probably just one thing, that is to embrace whatever comes.
- NKNikhil Kamath
Hmm. That sounds scary. [laughs] [upbeat music] [typewriter clicking] [typewriter ding] Uh, thank you both for doing this. Matthew, would you like to go first and tell us a bit about yourself?
- MKMatthew C. Klein
Sure. Uh, I write about economics and finance. I have a publication called The Overshoot, and I co-wrote the book, Trade Wars Are Class Wars.
- NKNikhil Kamath
And Ning?
- NZNing Zhu
Uh, I'm a professor at Shanghai Jiao Tong University and at Tsinghua University, and also I wrote a few books on investment in China's macroeconomy. One of them is titled China's Guaranteed Bubble: Predicting the Col-Collapse of China's Housing Bubble. And then I've been advising, uh, policymakers in China and many other parts of the world on macroeconomics and monetary policies.
- NKNikhil Kamath
Since we are in China today, maybe we can begin by you telling us how the Chinese economy is doing now.
- NZNing Zhu
I think the economy is stabilizing. I think, uh, uh, we have been having some, uh, corrections in the housing market over the past five years that's taking a drag on the macroeconomy. That being said, I think, I mean, the, uh, the, the new growth engine, I mean, m-m-being the, uh, the so-called, uh, new quality productive forces, uh, higher-end manufacturing, uh, n-new technology, AI, and, uh, high-end semiconductors are coming up pretty strongly. Uh, there are a couple of issues that's bothering the economy right now. One is, of course, consumption, which is not growing as strongly as people are hoping for. The other is, of course, increasing, uh, frictions on the export or the trade side of the economy. But both sides are doing okay, relatively speaking, in the global context. People are just wishing for the better.
- NKNikhil Kamath
Can you bucket China into 10-year periods? Because I don't have that much context. I've read a f-few books in China, but I don't see... I wanna know h- what changed between two thousand to two thousand and ten, two thousand and ten to '20, and what is the last six years like?
- NZNing Zhu
Uh, I think probably one... I think one benchmark people wouldn't commonly use is the general growth speed. I think for the first ten years of this century, it was growing over nine percent, and for the past decade or so, it was around seven, and over the past five years, uh, is more around five. So I think that's a numerical summary. But then I think if I have to use major milestones in history, 2000 marked China's entrance into the WTO, which is really helpful to China's economy. And then, of course, we have the four trillion stimulus packages coming out in 2009, which is a big boost for both infrastructures and the housing bubble. And that, I think, of course, COVID is like a shock to the economy, and then the correction or the crackdown on the housing sector is, uh, having a lot of influence over the economy over the past five years.
- NKNikhil Kamath
Matthew, this is like a conversation, so feel free to butt in wherever you like.
- MKMatthew C. Klein
Sure. I, I, I think one thing, you know, a-a-as, as Ning was saying, and I think it's worth, worth emphasizing the extent to which COVID was really a break, not obviously uniquely for China, but for a lot of the economies in the world. And, you know, one of the big points of contention that we've seen in sort of China's relationship with, with other countries, and it's come up recently in the p- in the past few weeks at the G7 meeting, is this idea of China's rising trade surplus and the idea that the new productive forces that are beneficial on the one hand for Chinese producers are considered very threatening for, uh, competing companies in, you know, Europe in particular with, with motor vehicles. And I think one, you know, piece of context that's, that's helpful here is that i-if we look at China's external balance with the rest of the world, in the years immediately leading up to the pandemic, the trade surplus, depending on how you measure it, was around, you know, one hundred to two hundred billion dollars a year, which is, you know, at one hand is a big number, but it's, you know, the con- global economy, we're talking about tens of trillions, right? Um, now it's more like one point one trillion dollars a year. So a big shift between twenty nineteen and now. Uh, that's really a function, I think, of, I mean, several things, but I think very much, you know, the response to COVID. And one thing I think that's striking is the productive side of the economy in terms of, you know, the factories being able to produce more and sell things recovered from COVID faster and better than the domestic demand consuming side. Part of that reflects, a-as Ning was saying, the consequences of the housing bust. Part of it reflects other factors as well, but, uh, you know, that divergence, um, has been significant and persistent. So even as sort of the overall economy, you know, as, as Ning was saying, stabilized, that, that sort of the composition and un- unbalanced nature seems to be... I'm not sure if it's necessarily getting, continuing to get worse, but it's, but it's very large. And, and as I said, the, the size of the, the surplus now relative to the global economy is, is quite large, and in particular relative to the size of China's trading partners.
- NZNing Zhu
I want to chime in about, I was in a session yesterday, uh, called the two-speed economy. It's actually what I call a K-shaped economy. I think that's not just a China phenomenon. This is becoming a global phenomenon in, I mean, across countries or within the same country across different social stratas. There are very different or diverging trends going on, and then I agree with Matt. I think China's export has been
- 6:29 – 11:42
Why trade surpluses and deficits can persist for decades
- NZNing Zhu
increasing very rapidly over the past, uh, five, six years. But then I think there are multiple... There's a multitude of reasons for that's happening.
- NKNikhil Kamath
I have a question here. Some countries have a trade surplus, some have a deficit. Fewer have a surplus, more have a deficit. What happens if this continues 10 years, 20 years down the line?
- MKMatthew C. Klein
Well, one answer potentially is nothing. Uh, you know, it depends.
- NKNikhil Kamath
Mm.
- MKMatthew C. Klein
Uh, there's nothing inherently sustainable, unsustainable about, about deficits to surpluses. There are reasons why certain places might want to be spending more than they're producing. Uh, so the canonical example you'd have is, is a, a society where you say you have a lot of younger people, it's relatively under-invested infrastructure, a lot of growth potential, maybe it's poor or less technologically developed. That's the kind of place where you would expect that the needs of the people to invest and grow rapidly and their future productive potential are such that it makes sense for people in the rest of the world to invest there, uh, you know, lend them money, export, you know, advanced machinery, things like that. And, and they could have persistent trade deficits for a while and grow rapidly, and that'd be beneficial for everyone. Um, the flip side is you can imagine a society sort of in the opposite situation. Maybe it's older, uh, already at the technological frontier, there's less growth potential. They have already advanced goods, and maybe they would export-
- NKNikhil Kamath
Speaking about the US?
- MKMatthew C. Klein
Well, this is the interesting question, right? [laughing] I'm talking about in theory, right? In practice, it doesn't work this way. That's, that's where it gets, that's where it gets tricky. [laughs]
- NZNing Zhu
And, and also on the theoretical side, I think, I mean, that is the case when we still have gold standard and, uh, in Bretton Woods, but now that that is gone, I was just trying to add on, while trade is no longer necessarily the only determinator in this, uh, equilibrium, now you can have... I mean, one side is the trade imbalance and the other is the capital kind of imbalance, that people have different preferences for put- putting their money into different countries, or by design, cer- certain countries have the ability to produce more, uh, capital or, uh, monetary, uh, supply than other countries. So that's somehow balancing off, off the imbalances in the trade area.
- MKMatthew C. Klein
Right. I, I think, you know, particularly in the US case, and it's not unique to the US, I think it's true for basically-
- NZNing Zhu
Now that we're not talking about a hit theory anymore. [laughs]
- MKMatthew C. Klein
Yeah. But the, the rich English-speaking countries in general, the, the, the thing what they have as a, as an asset is, is a legal system that people find, uh, very investor friendly. That's a language that people who are-
- NKNikhil Kamath
Used to be. Mm.
- MKMatthew C. Klein
Well, okay. [laughing] I said the rich... I said the English-speaking democracy, so this is a, this is a broader, this is a broader universe than just the US. But, uh, and, you know, it's a, it's a... And, and they have... And the language that basically any, you know, rich person in the rest of the world knows. So, um, that is-- Those are n- going to attract, uh, you know, savings from the rest of the world relative to other countries, regardless of whether it makes sense. So you have the strange phenomenon, we've seen this for, for decades, of places that in theory ought to be, you know, sort of standard theory should be having trade deficits because of their investment needs, actually having surpluses and sending, uh, you know, buying financial assets rather than borrowing their net lending to places that are rich like the US, the UK, Australia, Canada, New Zealand, because their financial systems, uh, are more ac- are accommodating and sort of meet that need, and which is a very strange... Not, not what the sort of standard theory would say is optimal, but it's, it's what we've, we've been observing for the past several decades.
- NZNing Zhu
And just to play devil's advocate, I think, I mean, in the old regime, I think when there is really prolonged and serious imbalance in trades, I think, I mean, if we use history as a benchmark, war is unfortunately the word that we would have to visit or revisit. What that is, when the two countries or countries, one country with other countries cannot resolve their disputes or cannot address the imbalances for a very long period of time, I think the one which normally is on the, uh, uh, uh, the, the deficit side, but sometimes because the, the, the surplus side cannot, uh, claim the, the money they are owed, there will be a war or some kind of military-
- MKMatthew C. Klein
Right
- NZNing Zhu
... uh, conflicts.
- MKMatthew C. Klein
Yeah. There's unfortunately a history-
- NZNing Zhu
Mm
- MKMatthew C. Klein
... of colonialism and imperialism tied up with-
- NZNing Zhu
Yeah
- MKMatthew C. Klein
... that older model.
- NKNikhil Kamath
Is there an unsaid understanding? Say China has a tariff... Say China has a trade surplus with America. Over the long term, is there a under... Is there an unsaid understanding that China will buy, say, American Treasury, for example, or invest a part of the money back into America?
- NZNing Zhu
I think for now I would say largely yes, because I think it's both push and pull. One is, I think Chinese do find, uh, the US dollar to be still a safe asset, and, and it's deep enough that we can deploy our capital into. But at the same time, it's also because there's a lack of alternative. I mean, in a way, this is related to what we discussed in a different session about RMB internationalization, because by that time, even, even though we're not happy enough with the US dollar as a, a, a, a store of value, there's really no other alternative we can put the money into. Of course, gold is one possibility, but the market is not deep or large enough for Chinese reserve.
- NKNikhil Kamath
Why can't you in- reinvest the money back into China to maybe improve the infra or manufacture more?
- NZNing Zhu
Uh, one is, I think China's manufacturing has already received considerable investment, so I don't think we're really looking for capital in that regard. The other is, uh, I think that happens in trade imbalance, so it happens in foreign currency. And of course, it is in the country's interest to keep certain amount of currency, uh, in
- 11:42 – 17:46
What actually signals a healthy economy, and Korea's shift from deficits to surpluses
- NZNing Zhu
order to... A foreign currency in order to stabilize its own exchange rate or for the security of the unspeakable.
- NKNikhil Kamath
So what matters? When I'm looking at economics and I'm seeing how well a country is doing or what it should do, I look at the trade balance, I look at inflation, cap-
- NZNing Zhu
Fuller employment, I guess, in domestically.
- NKNikhil Kamath
Employment. What else?
- MKMatthew C. Klein
I mean, you look at production of what it is people want. I, I'm not even sure the trade balance is necessarily the metric by way of success, because there are a lot of things that can affect the trade balance. If one guaranteed way to either reduce a trade deficit or to generate trade surplus is you just crush your domestic economy. Uh, if people can't afford to eat anymore, then You know, but they still can sell things to people in the rest of the world, and you're gonna have a shift in the trade balance. That's not, that's not a, that's not a benign-
- NKNikhil Kamath
Mm.
- MKMatthew C. Klein
-outcome. I mean, I think one thing that's useful to remember is a lot of the big shifts you see from surplus... So, uh, Korea, right?
- NKNikhil Kamath
Mm.
- MKMatthew C. Klein
Uh, very great developmental success story. People talk about export-led growth. But up until the Asian financial crisis-
- NKNikhil Kamath
Mm.
- MKMatthew C. Klein
-South Korea actually ran trade deficits consistently from 1953 until 1997. I think there was, like, one year maybe in '89, but, but basically until then, deficits. Then you have the Asian financial crisis, a very traumatic experience, and then ever since then they've had large and persistent surpluses. And I think it's fair to say that even though Korea's doing much better now than it was, say, in 1997, th- the circumstances that led to that, that shift in the trade balance were not benign. They were not good for Koreans. I don't think it was be- good for the world, and, and I think that that's an important, you know, context for understanding this.
- NKNikhil Kamath
Is that what worked for China? I had... I saw some data that China only consumes 40% of GDP. In India, that number is 55%. In the US, it's 68%. Did China domestically consume lesser, and hence they could export more?
- NZNing Zhu
Proportionally, yes. And I think there are several reasons for that. One is clearly just culture. I think many East Asian countries have this tendency, whereas I think India does not have that historical tendency. Uh, part of that is the shock from COVID, both in terms of people's balance sheet and in terms of people's confidence or their feeling of safety with consumption. Another is, of course, what Matthew mentioned about where there is some imbalances. There are certain suppression of certain factor prices, and there's some inflation of certain other, uh, factor prices, I think in the interest of the, the, the country, maybe not necessarily to a particular sector of the economy or the employees in those sectors. So I think that is slowly adjusting, slowly but steadily. Uh, but I, I, I, I understand and I think I can see that certain other countries have issues with this model of growth. But then going back to what Matthew has said, I think whatever happened to South Korea or some other, uh, South East Asian countries during the financial crisis has taught China a lesson about a running deficit, maybe even a brief and, uh, concentrated period of time could open your country to vulnerability, which is a reason for China want to continue its, uh, uh, leadership in c- consisting or insisting on its, uh, export s- uh, surplus.
- MKMatthew C. Klein
Yeah. I would also say that that's not the only time that's happened. So if you look at the Euro crisis, I think we've seen in retrospect-
- NKNikhil Kamath
Mm.
- MKMatthew C. Klein
-a similar phenomenon where a lot of countries did not... were not concerned about effectively a balance of payments crisis of the kind that hit these Asian countries, you know, 15 years earlier and then they were, and then you look at the past 10 years, and those countries have adjusted very dramatically. And e- and even the countries that didn't necessarily get IMF bailouts or, or other things with, you know, the ECB, they have shifted. And so Europe as a whole has had this massive structural shift in its behavior in terms of spending less relative, uh, to what they earn, which again, at the individual country level, it's understandable why you have that traumatic experience and want to avoid it, but from the perspective of the world as a whole, it makes everyone worse off. And so [laughs] this is a really unfortunate phenomenon that keeps happening, uh, but that's, you know, you have... That's sort of the structure of the way the financial system as it is, uh, you know, having these, you know, periods of, you know, severe stress and then if you're in trouble... I mean, in theory, the IMF is there to help you. In practice, it hasn't really worked the way I think it was intended to, and that's, that's why we kind of, uh, keep ending up in this situation.
- NZNing Zhu
Yeah, I think there's a little distinction to be drawn about, well, how much the whole world is gonna benefit or suffer from a prolonged period of trade imbalance and... But then there's also... I mean, there are winners or loser to that, and depending on which camp your country falls into, I think the countries may have very different views on, "Well, yes, maybe the whole world is probably coming down, but then at least I'm still in the more favorable position in the whole world."
- MKMatthew C. Klein
Right.
- NKNikhil Kamath
What happens, though, like 10 years from now? Say everybody continues at, at the same level, the surplus and the deficit.
- NZNing Zhu
I, I, I think I do have a couple of imaginations in my mind. One is, of course, uh, exchange rate. I mean, in a way, exchange rate is the way how to adjust trading balances, and of course, I think China is going into a... I mean, I, I, I still remember, uh, China started its, uh, exchange rate reform about a decade ago, and then, uh, RMB went down in devaluation for about 30%, but it has appreciated 10 to 15%, uh, since last summer. So I think it is entering into a period where there is wider range of two-way fluc- fluctuation, which I think is somewhat related or reflecting of the trade imbalances, not necessarily as closely as it should be in the past two, three years, but then I think that's one way of adjustment. Of course, uh, probably some other countries are thinking China is not adjusting enough or fast enough. So that's one area of adjustment. The other is, I think, I mean, uh, really depending on whether you're the Global South or you're the more developed economies. I think the Global South has issues with the imbalances with China, but then at the same time, China is investing heavily into those countries through ODIs. So yes, there are some issues, but then those countries seem to be feeling, "Okay, there will be a, a transitional period where, uh, many of the goods we're now importing from China will be eventually produced in China." Of course, that's a whole different, uh, kind of questions we can ask, but then they seem to be less concerned, whereas the more developed country are thinking, "Well, well, does it mean that each and everything that we're gonna consume in our country
- 17:46 – 23:12
Whether tariffs can correct an undervalued currency
- NZNing Zhu
will eventually be produced in China?" Which I think is probably the bigger issue we're talking about here.
- NKNikhil Kamath
Are tariffs an answer? I've never heard an economist say so, but maybe you're the rare exception.
- MKMatthew C. Klein
I, I'm not con- convinced they would... I mean, look, strictly speaking, the currency is the thing that you'd expect to move. And what's striking... I mean, Ning, Ning has said that China's currency has moved more relative to how it used to do, but it's also striking that the current... the exchange rate now, the, the, on a sort of a trade-weighted basis, especially if you account for the fact that China's had a lot less inflation than the rest of the world, um, is actually much lower now than it was, say, five, six years ago, which is striking because that is the time period when- Chinese goods became much more competitive on world markets. And so normally one might think if we sort of have a sort of standard model, that's when your currency would appreciate that if you're ma- if, if, if you and your, if your company, your country's workers are making things that are better and more valuable for the world, one way they are rewarded for this is that their purchasing power, purchasing power goes further internationally, and basically their wages are worth more internationally and the cur- but because the currency goes up, and they can import more. And the fact is that it's actually been reversed in, in the past six years. And obviously a lot of moving parts here in terms of China's not a fully open capital account, what, what's going on with the sort of invention and all that, but it is striking that that is... So sort of if we're zooming out and say like the currency is very low, um, how you get it from where it is to what might make more sense in a way that isn't destabilizing from China's own perspective, Chinese government's perspective, is a challenging question. But I mean, that I think is sort of a macro p- perspective. I think that's also why I think some of China's trade partners are looking and say, "Well, this is, you know, kind of unreasonable." And if you have that perspective, tariff's certainly not the first best option, but you can, you can see why some people might think like, "Well, the tariff might correct for this." So like the normal reason you wouldn't use a tariff is, is that, you know, if you have normal floating exchange rates, you put the tariff on, and that increases the relative appeal of investing in your country, so people are gonna send money there, and then your currency goes up, and then the value of the tariff... Basically what you've effectively done is you've just screwed over your own exporters, um, and, and nothing, nothing else changed. So that, that's why people don't use tariffs historically. But sorry, and, and if the, but if the currency's not moving, then that creates a different dynamic.
- NZNing Zhu
I, I won't deny that I think tariff will have some certain, uh, impact on, uh, balancing the, the, the trade imbalance and also to that extent, I think the, uh, floating of exchange rate will do something similar. But I do also want to bring up the possibility or the, uh, alternative explanation about, I think Matthew mentioned about why China's export has, uh, really, uh, uh, take a big lead after, big leap after the, the COVID period. I think in that period, yes, of course, there's some disruption in the global supply chain, but then at the very same time, China was managing very well in order to have a very well self-contained supply chain, which can produce a lot of things, not just, uh, without disruption, but at a much lower cost or a much higher efficiency. So in that regard, yes, if you levy a 100% tariff on toys produced by China, probably China will lose its competitiveness. At the same time, even if you levy a 100%, uh, tariff on new energy vehicles, China's new energy vehicles will still be very attractive in European market or maybe even in the States.
- MKMatthew C. Klein
Yeah. I think it's also worth... The mechanism of tariff is you're basically making it more expensive for your own people to buy things. So there might be reasons to do that, just like there are reasons to raise taxes sometimes, but it's pretty clear about, you know, how it works and who's paying it and what, what the costs are, and that's usually why people don't like to do them.
- NZNing Zhu
Yeah. Again, in theory, I think, I mean, the whole world will be worse off with tariff, no matter how much and, uh, levied from which country.
- NKNikhil Kamath
Are we aligned on that, the world will be worse off with tariff?
- MKMatthew C. Klein
Probably. I mean, obviously it depends on sort of what the second order reactions are. I mean, if, if-
- NZNing Zhu
[laughs]
- MKMatthew C. Klein
... the thing you're worried about is-
- NZNing Zhu
Ag- agreed to that. The, the second order impact.
- MKMatthew C. Klein
Right. If, if, if, if, if the situation... So I mean, you know, to be less sort of generic, like Europeans are thinking about this as a possibility and, and vis-à-vis China because of their concerns in their auto industry. And if their concern is that if they don't have... If, if their first choice is they would like either Chinese investment in Europe to produce electric vehicles that creates jobs and so forth, or China has a currency appreciation or some combination of those things, then they would prefer that, and then they say, "Well, if we can't get that, then we do this tariff because we think there's a systematic problem that's gonna wipe out a large chunk of our industry." You know, you can see why from their perspective it might make more sense, even if you're sort of starting from a blank slate and say, "This is not gonna make people better off."
- NZNing Zhu
And like many other large and complex issues, I think there's no one solution to the problem.
- NKNikhil Kamath
Right. But if that logic were to be true, I get applying a tariff against China, but there are many countries which don't orchestrate their currency. You will levy tariffs on them too, right? What's the logic there?
- MKMatthew C. Klein
I, I don't, I don't think there is. I mean, I'm not [laughs]
- NZNing Zhu
[laughs]
- MKMatthew C. Klein
I'm not defending tariffs. I'm talking...
- NZNing Zhu
Yeah. [laughs]
- MKMatthew C. Klein
You asked the question. [laughs]
- NZNing Zhu
I think it's probably fair to say that we're not, both of us, neither of us is a big fan of tariffs.
- MKMatthew C. Klein
Yeah, no.
- NZNing Zhu
But then-
- NKNikhil Kamath
Yeah. When you, when you guys said earlier that you went to college together, was that at Yale?
- MKMatthew C. Klein
Yeah, well-
- NZNing Zhu
No, no, he, he-
- MKMatthew C. Klein
Yeah
- NZNing Zhu
... he went there for college. I went there for PhD.
- NKNikhil Kamath
Ah. At different times. How old are you guys? I know, but I want you to say it for camera.
- MKMatthew C. Klein
[laughs] Old enough.
- NZNing Zhu
[laughs] Yeah. Right. [laughs] I don't
- 23:12 – 29:49
Why the world keeps funding American debt so cheaply
- NZNing Zhu
know.
- MKMatthew C. Klein
I'm, I'm thirty-nine. I mean...
- NKNikhil Kamath
Same age.
- NZNing Zhu
Thirty-three.
- NKNikhil Kamath
Okay. I'm asking you all the questions that I don't have answers to, uh, and I wish I knew. Why is American debt or American Treasury, say, T-bills, twenty-year long-term debt, why is it still being bought at 4%? With the amount of debt that America is sitting on, I don't get why the world is buying this debt at 4%.
- MKMatthew C. Klein
So mostly it's not the world, someone... It's actually it's Americans.
- NKNikhil Kamath
Mm-hmm.
- MKMatthew C. Klein
So it's, I guess, that's one point. And I, in general, and I'm sure Ning has a lot of thoughts on this as well, but I mean, in general, bond yields for countries that have their own currencies like the US, like China, like the UK, um, the interest rates mostly are a reflection of what people think inflation and growth are gonna be in the future, and it's essentially a question of this is... You know, if I have a choice between buying this thing that's gonna pay a fixed amount over time versus, you know, stocks and they're gonna go up a lot more, you know, that's essentially what sets the interest rate. And people, they can borrow money if they want to buy it, if they think it's too, you know, the yields are too high or, or, you know, things like that, and that's mostly what's driving it and that the, the amount of debt outstanding is more of an issue insofar as you think it's going to affect inflation in the future. Um- But even then, it still gets back to sort of what you think inflation's gonna be.
- NKNikhil Kamath
But shouldn't debt be the ability... Shouldn't debt be priced by the ability of the borrower to pay back?
- MKMatthew C. Klein
Well, right. But that's the, that's the thing. They can, they can. They can always print, they can always print the money.
- NKNikhil Kamath
Yeah.
- MKMatthew C. Klein
So that's why that's only the inflation point. So as long as you, as long as you don't think they're gonna be, you know, printing so much that it moves inflation meaningfully, and then even then it's still a bet on inflation.
- NKNikhil Kamath
But there's, there's really bad precedent to that because a lot has been printed. So I come back to the question, why, why... Okay, both the Americans domestically and foreigners, why are they funding the American government at 4%?
- NZNing Zhu
I will probably... For domestic investors, I think there are a couple of issues. I mean, I do a lot of research on behavioral economics. So one is, like, they're called local bias. So people prefer to buy securities from their own country, period. Every country is like that. The other is, I think, I mean, American economy has been doing very well, and then I think for American-owned people, I mean, even if the, the country cannot repay its debt, as long as it's printing the money enough or fast enough, then I think the American people are happy enough with that. I think the, the bigger question is for foreign holders, both institutional and, uh, to a smaller extent, uh, retails. I think there are a couple of reasons there. One is for, I think the largest holders of US dollars is largely foreign exchange, uh, foreign reserves. And for investors in those regards or some, to a certain extent, uh, sovereign wealth funds, those institutions, they require liquidity, and they also require the depth of the market. And there's just no other place they can turn to. I mean, no other is too strong, but then, I mean, you can turn to crypto, but then it's only, like, one or two trillion dollars, and then gold is a little bit more than that. But other than that, we're talking about trillions and trillions of dollars of reserves which have to find a place to park. So in that regard, they have to park in the US dollars. There's just no other country. There's no big enough security for them to find the alternative. So I think that's one thing which I don't want to use the word hijack, but then people don't have the alternative. So that's one explanation. The other is, I think as Matthew has pointed out, US has been doing pretty well after the Second World War. Probably not as well as before, but then, uh, I think it all concentrated in the past twenty years after the global financial crisis. 'Cause in 2007, if I'm not mistaken, the balance sheet of the Fed is less than one trillion dollar. It was as high as almost nine trillion dollars, and now I think it's falling back to somewhere between six and seven. So, uh, we're talking about the, the Fed is holding six, seven times as much in its balance sheet, which is pretty much the money it has printed out to the res- rest of the economy. So I think that's going to affect both inflation in general and also asset prices, which I think is more concentrated in the US. So I think that's gonna have long-lasting and serious social and political complications. But then those things take a far longer period of time to adjust.
- MKMatthew C. Klein
You know, I, I think one thing just to point out that's sort of a more, slightly more benign interpretation of this is, as Ning was saying correctly, that foreign investors, particularly reserve managers, want liquidity, and they want it, which means it has to be a big market. But the only way it's a big market is if there's a lot of debt in the first place. So you cannot have a liquid market for assets unless the government's borrowing a lot in the first place. So they, I mean, this [laughs] kind of goes together. It's like, why is there not a European alternative? Like, Europe is a very large... Close in size to-
- NZNing Zhu
Similar.
- MKMatthew C. Klein
Right, in size, like, collectively, uh, to the United States. Um, ostensibly has a pretty investor-friendly legal system, more or less, you know. But doesn't really compare. Part of it's the market's very fragmented. Individual countries have very strong incentives against borrowing, in part because of the euro crisis and so forth. And so, you know, there's a reason... You know, Japan's an interesting case, right? There's a ton of debt outstanding. Actually relatively popular to a certain extent, even though the yields until very recently were cl- basically zero. But you know, again, you, you have to... And, and this is actually something that came up in the, in the panel that Ning was on yesterday is, you know, China, in theory, could have a, a place here, but the central government does not issue much debt. Um, a lot of reasons for that.
- NZNing Zhu
Yeah.
- MKMatthew C. Klein
But that is gonna naturally reduce the demand or the, the appeal of this thing, uh, these instruments for foreigners if there's not a lot of it out there and it's not traded.
- NKNikhil Kamath
China has capital controls, so does India, where I come from. I personally believe that long term, if we didn't have capital controls, more money would actually flow in and less would flow out. Uh, how is it in China? Do you feel that way? Do you think capital controls are a good thing or money should be more fungible?
- NZNing Zhu
Uh, a-as a market economist, I don't think capital control is a good thing. But then going back to what you have said, I think I, I, I think in the very, very long term, depending on how you define long term, I think yes, probably removing capital control, there will be more money flowing in than flowing out. But in the very short term, this is where I think policymakers are most concerned, uh, in almost all countries. I think they're concerned with, uh, a short-term outflow, and that's going to create, uh, really drastic shocks to, uh, the financial stability. And we have experienced that or witnessed that in the Asian financial crisis and in some other episodes of history. So I think that is where, uh, the central bankers and the policymakers in China are putting more attention to. I think that that's sort of explaining why China's unwilling to or hesitant in removing capital control completely. I think China is going
- 29:49 – 35:36
Where American long-term yields go from here
- NZNing Zhu
towards the right direction, but at probably a slower pace than the rest of the world is hoping for.
- NKNikhil Kamath
The rates we spoke about, the Treasury rates, 4%, if you had to call it in ten years... I'm asking you the same thing because I ru- I run a fund, and I wanna know how to allocate money. Where would you call American long-term debt, what rate in ten years?
- MKMatthew C. Klein
Given that I'm not con- don't feel confident I can predict what's gonna happen in the US in the next six months, uh [laughs]
- NZNing Zhu
[laughs]
- NKNikhil Kamath
[laughs]
- MKMatthew C. Klein
I don't... But maybe I'll, I'll push back a slightly different way, which is I, I'm, I, I actually sympathize with the idea that yields are somewhat low, seem too low in the United States now rel- not, not saying they'd be ten years from now, but-
- NKNikhil Kamath
Sympathize with us or?
- MKMatthew C. Klein
Well, with what you were saying, that why are they-
- NKNikhil Kamath
Right.
- MKMatthew C. Klein
But although not necessarily for... I'm not sure if it's the same reason, but I think essentially that actually the Growth outlook on the one hand in the US I think is somewhat better than had been implied when people were more concerned and, you know, pricing in a lot of rate cuts.
- NZNing Zhu
Mm-hmm.
- MKMatthew C. Klein
And also the flip side, that inflation, I think there was sort of a very n-naive, optimistic view that inflation was just gonna go right back down to 2% without any issues, and I think that's... And that didn't make sense to me before the, you know, Iran war, and it still doesn't make sense to me. And again, re-for actually relatively benign reasons insofar as the economy's doing pretty well. The job market's not deteriorating. It had been stuck at three for a long time. Like, why would it slow down? Um, so that's kind of where, you know, if you, if you think that in fact there is this sort of growth impulse from AI related investment, I would think that would increase the returns on risky assets, which means that non-risky assets should pay more compensation, which means yields should go up. We've seen a little bit of that in the past six months, but I'm not sure it's been enough. I mean, I don't feel... I mean, I, unlike you, I do not run funds. I don't feel confident enough to actually... You know, there's a lot of risk management things associated with that. But, and that's, that's kind of where I would be on that. I mean, looking sort of the longer term, I, you'd have to look at things like, well, what, what is the state of the rule of law in the United States? What's, what's the growth? What, what happens to demographics, right? I mean, there's already had a huge change in the demographic outlook in the past couple of years.
- NZNing Zhu
Mm-hmm.
- MKMatthew C. Klein
Um, that is gonna have an impact on, you know, long-term growth trajectory, which should infect- should affect, you know, what you think is the, the right in-set of interest rates. So the, it's a whole lot of things that, you know, looking 10 years out, very hard to say.
- NZNing Zhu
Are there any direct correlations between demographics and economics? Like the world is aging. India, which was a very young country, is aging too. What changes from a economic policy thinking in a way when the world is older?
- MKMatthew C. Klein
So in theory, what people would say is that you have less need for investment because you're not having the extra growth of more people. Well, older... I guess a couple things. There's a population growth rate, then there's like the age composition. Those, those, those things tend to be related, but not quite the same. So if the growth rate of the population is slowing, you should expect to have less investment. That should push down interest rates, um, all else, you know, not changing. There had been research about saying that aging populations should actually lead to higher interest rates. But if you look at what the samples were, they were all based not on the actual age structure, but the dependency ratio.
- NZNing Zhu
Mm.
- MKMatthew C. Klein
Uh, and the dependency ratio of the societies we're looking at were all ones that had lots of kids, which means they were actually growing rapidly. So it's a very different dynamic than having a lot of old people. So even if it's the, the workers to non-workers ratio looks the same, those, they're gonna have very different kind of perspective there. So I mean, the only real example we have of a country that's sort of done this is Japan. Although interestingly, Japan now you've seen interest rates go up a bunch recently.
- NZNing Zhu
Mm-hmm. Mm.
- MKMatthew C. Klein
So, [laughs] you know, who knows? There are a lot of moving parts. I, uh, demographics are clearly important, um, but how they translate to everything else, I mean, I'm, I'd love to know what, you know, Ning's thoughts are on this.
- NZNing Zhu
I, I, I, I think I tend to agree with, agree with, uh, Matthew. I, I don't think I'm gonna give you a straight answer. Uh, a couple of things. One is I think the whole world is undergoing so many changes that it's very hard to make any reliable predictions on almost anything. I mean, I, I recently published a book titled Non-Linear Thinking. I just think that we tend to think linearly even though the world is going through drastic changes. The second is I, I, I worry less about, uh, demographics even though it is a very, very serious issue. I worry more about, um, the relative safety across different countries. After all, I mean, the, the, the yield on Treasury is not just a matter of the investment value, it's also about the safety. So I think given all the things that's happening in the world, I think relatively speaking, US is probably still the safest. So in that regard, what is the benchmark for the whole world when it comes down to monetary policy? I, I don't know. I think, I mean, ever since the, the quantitative easing, we have entered into a new regime that nobody really knows the answer to. 'Cause beforehand we thought, oh, such quantitative easing, such a big, uh, supply of money will lead to, uh, uh, inflation soon enough. But then we haven't. We have been searching for inflation for almost twelve, thirteen years before it finally came back a little bit, but then it seems to be disappearing again. So- Why, why is that? If the, if the raw input for anything, everything is energy and energy prices have shot up. I'm not even talking about the traded value, but the actual physical value of the commodity. Why has inflation not come back in a more meaningful way? I have a theory, a sort of half joking theory, wh-which is, I mean, look at the stock market in the US and look at, uh, the housing market in China up until twenty twenty-one. Yes, we don't have increase in inflation or the CPI for many countries, but then most of the money went into, uh, asset prices and property prices. So in a way that is good because that is absorbing, uh, the, the, the uphand, uh, the, the, the, uh, the pent-up demand for the, the, the consumer prices to go up. But then I think the longer eventual social problem from that is you have increasing income or
- 35:36 – 41:35
Whether dedollarisation is actually happening
- NZNing Zhu
wealth inequality in the society, and then eventually that's leading to some extreme political movements, which I think we're experiencing right now.
- MKMatthew C. Klein
Is de-dollarization real? I know China started... China changed after the tariffs on Russia. I think the pace of change increased. What's happening now after the conflict and the geopolitical turmoil of the past couple of quarters?
- NZNing Zhu
I think China has been pushing the RMB to be more internationally adopted through either trade or through, uh, uh, exchange, uh, swaps. Uh, I think that the case with Russia is just one small part of the, the general push for RMB international-internationalization. And, uh, to a greater extent, I think, I mean, China has been increasing its trade, uh, surplus by so much that it has accumulated a lot of overseas, uh, adoption of RMB. That is one part of why RMB is becoming more popular. But just as we discussed in the other session yesterday, I think in terms of the total settlement for, uh, for the whole world, RMB has not gone up a lot in the past decade or so. So in regard of, well, is this a really big push or is there some balance or market mechanism is at play? I think I would tend to think the latter is more powerful in, yes, China is becoming more powerful and more, uh, uh, international, but then it's still in the hands of, in the, uh, eyes of the beholder about which one I would like to hold eventually. And I think a big question for that is-
- NZNing Zhu
How to provide a better venue for foreign investors to invest in offshore RMB related or denominated assets, which I think goes back to Matthew's points about Chinese companies or Chinese government would have to issue more safe assets overseas, which has not happened so far.
- MKMatthew C. Klein
Yeah. I, I think getting back to one thing Ning was saying before is you cannot de-dollarize unless there's an alternative. And the do- you know, RMB is obviously one possible one. I think... And one also obvious one, and was very obvious to people twenty years ago, but no one talks about it anymore, is the euro. Uh, which again, like, why, why has that not become more of an alternative? I think in, you know, specifically in the Russia case it's interesting because it wasn't unilaterally the US, right? That was actually a very coordinated move with the Europeans, with the Japanese. Part of the reason the Russians were so surprised about this, they, they thought they'd actually protect it 'cause they moved all their reserves out of doll- mostly out of dollars, you know, in anticipation of this, and were very disappointed when they found out, like, the Japanese froze their reserves, for example. So... And that's, that, you know, the, the, you know, moving to what I think is, is the big question here. And if there isn't, and, you know, y- constructing a market that would be compelling and having an, a currency where there are the assets for it and, and the infrastructure, just not a lot of people seem to be willing to do that, and that's why it hasn't happened yet.
- NZNing Zhu
On that topic, I think crypto was considered as a potential, um, uh, contender to that. And of course, I mean, it has its own drawbacks. But then I think the introduction of, uh, stablecoin in the past couple of years may be solidifizing, uh, solidifying, uh, US dollar's dominance in a way about RMB is not pushing as hard or as fast into that direction.
- NKNikhil Kamath
Stablecoins are just dollars.
- NZNing Zhu
It, it is just dollars.
- MKMatthew C. Klein
Right.
- NZNing Zhu
But a different way of-
- MKMatthew C. Klein
Well, plus, like-
- NZNing Zhu
... using dollars
- MKMatthew C. Klein
... gold and some other weird stuff. I mean, who knows what's happening.
- NZNing Zhu
Yeah. But, but I think the, the, the technological, the technologically more advanced and the more efficient and cheaper way of adopting dollar may give dollar an additional edge.
- NKNikhil Kamath
I w- I would put stablecoin as dollar moving away from Swift to a better transfer mechanism, but essentially-
- NZNing Zhu
Agreed
- NKNikhil Kamath
... a dollar. Uh, as economists, do you think crypto has future?
- MKMatthew C. Klein
If you take the cynical view that, that the appeal of crypto is the ability to operate outside of the law, then I feel like there's always gonna be a market for that.
- NZNing Zhu
And also, I mean, if you take it as an asset, I think there's always a, a market for that too, just from a pure motivation of diversification and hedging.
- NKNikhil Kamath
When we were talking about de-dollarization, will it come down to something as simplistic as who owns what percentage of global trade should have the incumbent currency of the world?
- NZNing Zhu
I don't think so. And it has not been so historically. I think it has a lot of, uh, influencing factors in terms of how, what is the trading balance looking like? What is sort of the, the power of a country in order to guarantee or ensure the safety of its security? And then, of course, the future, how well the economy grows, economic growth will be in that country, and then, of course, how bad the inflation will be to offset that growth.
- NKNikhil Kamath
Can you wager a guess as to what will happen again in the next ten years to global currency? What happens to the dollar? Also, will it depreciate or appreciate?
- MKMatthew C. Klein
Against what?
- NKNikhil Kamath
Against the renminbi, it probably should because you're running a trade surplus.
- NZNing Zhu
Probably so, yeah.
- NKNikhil Kamath
Against a country where they have a deficit against, maybe it should appreciate.
- MKMatthew C. Klein
Well, should and would are two different things. [laughing]
- NKNikhil Kamath
Do you think it will? Do you think it'll become so transient and transactional, the value of the dollar? A lot of people, you know, whenever there's turmoil in the world, when there's a war, even if America is second-degree part of the war, people actually move back into the dollar because it's the safe haven asset, which kind of is very counterintuitive when I think about it. Do you think that will change and tomorrow the world will be different?
- NZNing Zhu
I think the only constant in life is change, so I think it will change. It's just a matter of whether it's gonna change in a decade or change in a century. So I think eventually it will change, and I think there are more and more people saying it cannot go on forever. I mean, m-meaning that the US cannot always print its way out of any kind of trouble. But then I think it takes time. I just want to make the analogy that, uh, the US economy surpassed that of UK in around 1875, but the US dollar did not totally replace,
- 41:35 – 46:37
Why unsustainable arrangements outlast the arguments against them
- NZNing Zhu
uh, uh, s-sterling until, like, almost 100 years later. So it's a very long and gradual process and full of changes, ebbs and outs.
- NKNikhil Kamath
Let me put it this way. As a trader, if I were not to trade a dollar swap, I'm not trading dollar/euro, dollar/renminbi, but I'm figuring out if I should buy the dollar index or short it, what would I do?
- NZNing Zhu
One thing for sure, you're not a trader for the next ten years. So... [laughs]
- MKMatthew C. Klein
Yeah, I mean, it's a, it's a tricky question because I, I, I think one thing we've seen is that a lot of things that appear to be unsustainable, and you can create all these arguments for it, turn out to be sustainable for longer than you'd, you'd think. And there are also all these other factors that people don't tend to look at. I mean, you know, one thing I remember learning about and people thought it was such a revelatory when it happened, uh, the, um, there, there was a big earthquake in Japan in 1995.
- NKNikhil Kamath
Mm-hmm.
- MKMatthew C. Klein
And people were looking at this, and they were looking at it in the context of Japan had, you know, they'd had their big banking and real estate bust, and the aging and shrinking population was coming out. And so people were saying, "Oh, clearly the yen is gonna depreciate." It was like there's all these structural headwinds for it to depre- tailwinds for it to depreciate, and then you had this earthquake. And what did it do? It went up a ton because it turned out that all these Japanese insurers had all these foreign assets, and they had all these claims they had to pay, and the foreign assets were in other currencies, and the claims were in yen. So they had to sell all the stuff, and they dumped it, and then the yen shot up. So I, I think, you know, some of we call, like, a flight to safety. I mean, this is all what happened in, in the financial crisis with, with the dollar, right? The dollar had been depreciating for a long time. There are good reasons for that. Um, the US was arguably the center of, of the banking crisis, yet the dollar shoots up, and it's not because people thought the dollar was a safe place to be. It's because it happened to be the case that there were a lot of short-term claims denominated in dollars, and there were long-term assets that were not. And, you know, that was just how people had to pay their bills. So it... Things like this just make it very tricky to say with confidence, just 'cause we have all these sort of theories like, "Oh, it should be this because of all these good reasons, and that's how a benign adjustment would occur." And it might do something totally different.
- NKNikhil Kamath
Hmm. I know Ray Dalio, and he keeps saying that when short-term rates go up and long-term rates are below short-term rates, it's the first real sign that the dollar, the incumbency of dollar as global currency is going to change. Do you buy into that?
- MKMatthew C. Klein
I mean, far, far be it for me to disagree, you know, with something that he, Dalio would say about global macro. I'm not sure I fully understand, like-
- NKNikhil Kamath
Mm
- MKMatthew C. Klein
... how that works.
- NKNikhil Kamath
Mm.
- MKMatthew C. Klein
But I mean, I, I think one thing also that's an interesting perspective is, you know, we generally talk about the idea of, like, a reserve currency.
- NKNikhil Kamath
Mm-hmm.
- MKMatthew C. Klein
And I... historically that isn't quite right. Um, there are usually more than one. I mean, there- some would be bigger than other ones. But even in the period people talk about, like, sterling as the reserve currency, it was notable insofar as, say, like, Japan had most of its foreign reserves in sterling assets, like, the early 1900s. But there were other large blocks, and arguably this is in function of empire. But still, like, they had French francs, or reichsmarks, or, uh, you know, US dollars, right? And so, like, it wasn't completely this sort of all one or nothing. And I, I, I think a return to that kind of world... I mean, first of all, that world arguably still does exist, right? It's not like 100% of all trade is in dollars, 100% of financial assets are dollars. That's not, that's just not how it is. But, um, there are other currencies used. So you could have more moving in that direction. I mean, even, even the UK, right? People do not think about the UK as being, like, a major alternative player. But in, in terms of its share of global reserves, in terms of its share of financial transactions, the pound actually punches way above its weight, in a way comparable that, that the US dollar punches above its weight. It's just that the UK is such a small economy, people don't pay attention to it. But proportionally, it's actually pretty comparable, and I think that, that kind of thing, you know, could keep happening.
- NKNikhil Kamath
Actually, the euro is comparable. Like, if you were to put all of the countries together, I think they get to, like, 60, 70% of American GDP, right?
- MKMatthew C. Klein
That's right.
- NKNikhil Kamath
Yeah.
- MKMatthew C. Klein
But as a share of financial assets-
- NKNikhil Kamath
Mm
- MKMatthew C. Klein
... it's much smaller. So that's, that's what I mean about pun- you know, punt- Yeah. So it could be, right? I, I think that's striking that it's so much... And that was definitely an ambition a lot of Europeans had-
- NKNikhil Kamath
Mm
- MKMatthew C. Klein
... at the time, was to be... you know, take advantage and sort of reach parity there, um, which they have not, and that's sort of an interesting question why, but I mean, that certainly could.
- NKNikhil Kamath
I don't know if I would say this for majority, but there seems to be some kind of philosophical decoupling from the US as well in the recent past in Europe.
- MKMatthew C. Klein
The, the current admin-
- NKNikhil Kamath
Like I said, I can't speak for majority. [laughs]
- MKMatthew C. Klein
I mean, the, the, the current admin- uh, the current American administration has not made it easy, uh, for the Atlanticist, uh, Europeans, I'll say that.
- NKNikhil Kamath
Right.
- NZNing Zhu
And, and, and then I think it's probably not just the US. I think, I mean, there's... I mean, uh, Mark Carney, uh, prime minister from Canada, made the, the, the, the, the statement in, uh, Davos this year about the, the midsize economy. I think that there is probably a greater need for a, a bloc. Maybe that's the majority of the countries to have a different form of a, a coalition or collective voice to be heard in the, in the world. 'Cause I think the, the world is becoming more and more concentrated, US, China, and then everybody else, but the world was not like that.
- NKNikhil Kamath
That was such a good speech. I think he called it middle powers.
- MKMatthew C. Klein
Mm-hmm.
- 46:37 – 52:25
How China's state guaranteed its housing bubble
- MKMatthew C. Klein
and yet, you know, that's not how enough of them think about it.
- NZNing Zhu
I think that's the opportunity, but that's also the challenge.
- MKMatthew C. Klein
Right.
- NKNikhil Kamath
Hmm. When you spoke about the real estate, the housing crash, Ning, back home, whenever I talk to real estate developers, there's a certain delusion that land prices can never go down.
- NZNing Zhu
[laughs] We have that too.
- NKNikhil Kamath
I've heard this time and time again. I've heard this from everybody for a long, long time now. How did it happen in China so maybe people back home can learn?
- NZNing Zhu
I think it's a matter of narrative. I work a lot with Bob Shiller, so I think I'm unavoidably influenced by him. I think, I mean, in the first decade of this century, it's probably the normal marketization of real estate, because after all, people don't have a property to own, uh, before 2000s in general. And then I think the two... after 2008, after the four trillion stimulus packages, I think the housing prices went up so much that people were just convinced that, "Well, this is the best way to make my money." And then I think after 2015, 2016, in order to alleviate the fall down from the stock market crash, I think there's another big wave of the push. So in China, this is why I wrote my book, A Guaranteed Bubble. I think the government has a lot to do, uh, to support or to, uh, pu- push up or shore up the housing prices, which has solidified people's expectation about housing prices will never come down, or land prices will never come down.
- NKNikhil Kamath
Can you elaborate, uh, elaborate what does the government have to do?
- NZNing Zhu
Well, I think a couple things. One is, in general, people believe that the central government really cares about the GDP growth. And back in the past decade, from 2009 through 2020, uh, real estate investment is the best way to boost the short-term economic growth. So I think whenever there is a slowdown in the economy, uh, coming down from the central government down to the local government, they all want to sell more houses, build more houses. So that's going to push up the economical growth. At the same time, which I think will be an more complex issue in India, is, uh, land sales have become the m- the biggest contribution to fiscal, uh, revenues to many local governments in China. So of course, local governments have the incentive of pushing up the housing prices eventually in order to sell more lands at higher prices. So those two forces work together to ensure people really believe there's no way the government is willing to let down the housing prices. And I think that is... that guarantee from the government is reinforcing people's already strong expectation, as you described in India, about housing prices will never fall. Of course, that's the purpose of my book. Once it starts turning, it turns very badly.
- NKNikhil Kamath
Yeah. Whenever everybody believes the same thing-
- NZNing Zhu
Exactly.
- MKMatthew C. Klein
I mean, I also say there are plenty of other places that had housing bubbles and busts recently, uh, with different economic systems.
- NZNing Zhu
[laughs]
- MKMatthew C. Klein
So it's a, it's a pretty, it's a pretty broad-based phenomenon. And I think actually the, the commonality is in those places in, in Europe and the US and, and Japan and elsewhere is, um, because so many people have the majority, if not the vast majority of their wealth in housing, there is a very reasonable motivation for governments to not want housing prices to go down. I mean, maybe you don't want it to go up a lot, but you certainly don't want it to go down because, you know, you're screwing over a lot of your constituents. And so that... The problem is, as you said, if everyone believes it's not gonna go down, that creates incentive to-
- NZNing Zhu
It is going up a lot
- MKMatthew C. Klein
... borrow more to go up, right. 'Cause then the, your downside risk is capped, so you're gonna borrow more to make it go up, and that- that's where it gets challenging. But I mean, there is a, there is a reason for this.
- NKNikhil Kamath
Do you have property taxes, like high property taxes in China?
- NZNing Zhu
That's one thing I have been advising a lot in China. We do have in two cities, but to a far less e- extent than what we normally have in other parts of the world.
- NKNikhil Kamath
I think that's the only way to keep it in check.
- NZNing Zhu
I agree.
- NKNikhil Kamath
I, I feel like even in India, uh, we have really low property taxes. We have a lot of the shadow economy, the, the money which is not paying tax sitting in real estate, and maybe a good way to bring that back into the formal ecosystem is having higher property tax.
- MKMatthew C. Klein
Yes. And as a California resident, we have-
- NZNing Zhu
[laughs]
- MKMatthew C. Klein
... we have the delightful situation of a, uh, a headline property tax that is-
- NKNikhil Kamath
Yeah
- MKMatthew C. Klein
... you know, normal, but then most people don't pay it because, uh, [laughs] your actual, the value of your house does not adjust to the market, uh, which it creates, uh, dynamics.
- NZNing Zhu
And some of my colleagues from, uh, UC used to have a research about it showing and comparing the, uh, different states in terms of their property tax and the, the, the amount of appreciation their housing prices. There's a clear negative correlation between the level of property taxes and the speed by which your housing prices appreciate.
- MKMatthew C. Klein
I'd say another thing that as a policy reminded of, you know, US cross state differences, it- the extent to which, uh, lenders have less protection if they're lending against real estate, that will also be a useful corrective.
- NKNikhil Kamath
Mm.
- MKMatthew C. Klein
Because the more secure they are, or the more secure they think they are, whereas, uh, I mean, I remember looking at or reading research on this. In the US, the housing de- so Texas, some legacy of the, like, pre, I think the Mexican Constitution, something it was inherited that, like, um, you essentially, if you did a home equity loan, uh, on a house in Texas, more or less like you could, you had no collat- like if there was foreclose, like you would get nothing. Um, and so one interesting consequence of this was that you did not have, unlike much of the rest of the country, when in the 2000s, there was not really this huge boom in Texas in, in housing, in mortgage debt and housing prices because you couldn't use it in the same way, uh, as, as collateral for, you know, to finance your consumption, unlike a lot of other states. So I think that's... That kind of thing, which was definitely not done deliberately on their part, but you know, that, that, that's, uh, I think those kinds of reforms are also useful.
- 52:25 – 59:46
Building an economy from scratch: efficiency against fairness
- MKMatthew C. Klein
of a lot of places. I, I don't think... I, I don't think we're, I don't think we're a bellwether, but I also don't think that there's sort of a universal move one way or the other.
- NKNikhil Kamath
What do you think works? You guys are like economists. Uh, if you were to try and model policymaking and governance for a new country, say we are creating a country today, the country is called Matthew plus Ning, what would the economic policies look like? What is most conducive? You have good demographics, 30-year-old population, a million people in your country. Big question, broad question.
- NZNing Zhu
I think it depends on whether Matthew is chairing the Senate or I'm chairing the Senate. [laughs]
- MKMatthew C. Klein
[laughs]
- NKNikhil Kamath
Would you like to go first, Ning?
- NZNing Zhu
Yeah, I think probably a couple of things. I think, I mean, uh, we always argue for a very important trade-off between, uh, efficiency and fairness. So I think even borrowing from the experience, the successful experience of China, I think I would say to start the country, I would put more emphasis on efficiency than fairness, which is not very easy to sell, but I think that's going to lift the country.
- NKNikhil Kamath
Actually, China started with fairness, then efficiency.
- NZNing Zhu
Yeah, I think-
- MKMatthew C. Klein
Let me just, let me just-
- NZNing Zhu
... before, before the reform. Exactly. Yeah. The, the, the reform, now opening up. Yeah, exactly. So I think even... But I think that there's already some contrast in there. So I think, I mean, I would put more emphasis on growth than the allocation of the resources eventually. But then I think that's the first thing I want to say. The second is we have to have some check and balance in ensuring, uh, the, the very basic welfareness, uh, welfare of the, the people who are less advantaged. So I think, again, going back to how do you trade off efficiency and fairness, and then I lean more towards efficiency, but then how do we ensure fairness at the very same time?
- NKNikhil Kamath
Maybe you should coin a term because this is coming back and, and becoming so cool again that capitalism and socialism will probably have to merge and come up-
- NZNing Zhu
Yeah, I, I-
- NKNikhil Kamath
... with a new word.
- NZNing Zhu
I agree
- NKNikhil Kamath
Especially because of what Matthew's friends in AI are doing in San Francisco. So if somebody has to come up with a word, maybe it's you with all the books.
- NZNing Zhu
Okay, good idea. [laughs]
- MKMatthew C. Klein
One thing I would just say to add to your question, I think the size of the country actually is a important variable here. Like if you're a small, if you're a country of a million people, you have a whole very different set of constraints and also a different set of opportunities than if you're a country of, you know, 500 million.
- NKNikhil Kamath
Mm-hmm.
- MKMatthew C. Klein
Uh, and I think that's also important. I think looking at, you know, if, if, if you're starting from the situation of saying you're a country of a million people, looking at places that are successful like, like a Singapore, uh, or, or an Ireland or something, I think are actually the relevant examples more than a big country that had a different experience. And conversely, if you were a big country, looking at those are not necessarily useful because there are certain niches that you just can't fill if you're that big.
- NZNing Zhu
And for that matter, I think the three of us, we're in no position to make a comment on a country of 1 million people to start with. [laughs]
- NKNikhil Kamath
Yeah, but we can have a new country. Do you think, um, again, this is a really extrapolated question, but, uh, the way the world is moving, for a while when I was growing up, I thought everything was getting more globalized. The world was becoming one. Today, we seem to be going in the opposite direction, each country for its own. Where does this path go? And for that path, what economic model works best?
- NZNing Zhu
May I ask how old are you?
- NKNikhil Kamath
I'm his age, 39.
- NZNing Zhu
[laughs] Oh, okay.
- NKNikhil Kamath
[laughs]
- NZNing Zhu
You're young enough. So I think we already have very different memories of the world, and I, I think I grew up in the period when I think the world is really coming together, and then it's changing, of course, for my son and for my daughter, uh, who are both in their... uh, who are in their early 20s. Uh, I, I think, I, I want to emphasize on one thing. I mean, I s- do a lot of research on behavioral economics and behavioral, uh, decision-making. I think memory and experience have a lot of influence on people's mind and how they behave. So in a way, I think we have evidence showing that people who are born and grew up in the Great Depression will be less likely to take risks and, uh, invest in the rest of their life. So I think it means it's sort of, uh, uh, uh, self-fulfilling in what you exper-experience is becoming what you do or what you, uh, decide to do. So in that regard, I think, yes, I think the world is far less globalization, uh, than before, but then how that is going to shape the new generation of the people, I don't know. I think it, w- once there's a trend in history, I think it tends to last for quite some time until it turns a- around. So I think we are, unfortunately, in this period of stagnation or even reversal of globalization.
- MKMatthew C. Klein
Yeah, I think Ning has made a really good argument for why you have long cycles of history 'cause if it, if it's based on experience and people live and then they... that shapes their behavior for the rest of their lives and they die, you have a new generation that's gonna last. I, I think it's, I think it is instructive that unfortunately, basically, as soon as you had the generation that lived through, you know, World War II die, we suddenly see [laughs] uh, a lot of sort of fascist or quasi-fascist movements coming back in a lot of the places where they were fighting, and I think that's an unfortunate, um, and I don't know if it's predictable, but I think that's, uh, I think it's very much related to the kind of phenomena you're talking about.
- NKNikhil Kamath
I don't know if this is something you guys cover, but any views on India and what we should do better?
- NZNing Zhu
Well, I, I, I think it's a large and emerging and very promising country, and, uh, I have to say that I think there should be more understanding about India from China's side. I think, I, I know, I think, I'm under the impression that Indian have more understanding of China, whereas there's not as much understanding of, uh, India. Hence, there's less, uh, collaboration between the two countries, which is a little pitiful.
- MKMatthew C. Klein
Yeah, I'll, I'll be honest, I don't know as much as I should. I, I think one thing that... one thing I do know that I think is, is striking and useful is, you know, we were talking earlier about countries that are importing more than they're exporting and their stage of development. I think India actually has been doing that, you know, pretty consistently, and I think that's... you know, they have been having, you know, strong, uh, relatively rapid growth over, you know, the past several dec- I think basically since the, the early '90s, I believe. Uh, you know, there were a lot of reforms that were done in India, and that sort of, you know, led to obviously, but that's, uh, [laughs] you're, you're reaching the limits of my knowledge here, so I'm gonna, [laughs] I'm gonna stop.
Episode duration: 59:46
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Transcript of episode QigAo0NKUIM
