✈ A quick note: I will be traveling through the middle of the month and will be posting a bit less than usual and perhaps a bit shorter than usual.
These days, it seems that critics of capitalism are more prevalent and more vocal than ever. But Ruchir Sharma, author of What Went Wrong with Capitalism, argues that the free market never let us down; our government did. Today on Faster, Please! — The Podcast, Sharma and I discuss the American addiction to “pain management” — unnecessary economic intervention aimed at dulling the effects of the natural ups and downs of a free market, and how it crippled American capitalism.
Sharma is chairman of Rockefeller International and the founder and chief investment officer of Breakout Capital. He previously served as head of emerging markets and chief global strategist at Morgan Stanley.
In This Episode
Disillusionment (1:20)
Economic booms (6:12)
Pain management (8:49)
Populist policy (14:38)
Catalyzing change (17:32)
Below is a lightly edited transcript of our conversation
Disillusionment (1:20)
Pethokoukis: In the book, you write with some concern about the declining faith in capitalism, really among all Americans, especially Democrats and the young. It may be worrisome, but is it really surprising, given we had a financial crisis . . . hard to believe it was, what, 14 years ago? 15? Well, I guess 16, 2008 . . . Financial crisis, slow recovery. So, for a lot of people, there's a pretty good chunk of their lives where the economy didn't seem to be really zipping along very quickly and making a big change in their lives, so if people are skeptical of capitalism, can you really blame them?
Sharma: Well, as I argue in the book, Jim, that the current system we have in place is very far from capitalism. It's a very distorted form of capitalism that we have in place, and the surprise, I think, has to be the fact that, at the headline level, the numbers from the American economy look pretty good, which are the fact that the economy is growing at above two percent, the stock market is booming, America is seen as the center of all the tech innovation, AI, and, compared to its major rivals such as Europe, America seems to be in a much better place. And I think that a lot of people in the Biden administration try to put that out, which is that, “What's the problem, given how well the American economy is doing?”
And I think that the polling data is obviously very different. It shows a persistent and consistent decline in faith in the American economy, that the voters and people have, and, as you pointed out at the outset, that a lot of young people, in fact, say that now they prefer socialism to capitalism. So I guess that's the surprise, which is the fact that, at the headline level, the numbers look fine, and especially when you compare it to other countries, and yet, if you look beneath the hood, both the numbers, in terms of polling numbers and then a deeper look at capitalism, which is what I've done in the book, reveal that something is wrong with the system. The general feeling that the average American has, that the system is almost rigged against them, and rigged in favor of Big Business.
Clearly one reason people are sort of unhappy is because we had a big surge of inflation, and, even though the rate of inflation has come down, prices are still a lot higher than they remember. But that seems to me to be a temporary aberration. As every day, and month, and year goes by, we'll be a little further from this inflation surge. And then you mentioned all those positive things: in every sort of emerging technology, America seems to be the leader. Is there really a deep problem that will be more or less solved on its own the further we get away from the pandemic and that pandemic-era economy?
Well, anything can happen, but I wouldn't bet on that because, as you said, that the decline in the faith in America's brand of capitalism and the number of people who feel that the country's moving in the wrong direction, all that data predates the pandemic. So it's not as if there was a surge in inflation and that suddenly changed people's thinking about the economy and they're feeling much worse off because their real wages got wiped out by inflation. This happened even before that. Through the last 10 or 20 years, you've seen a consistent decline in American faith in the economy, in American faith in government. So this is not just about the near-term inflation data, or even in terms of what's happened in the post-pandemic world, and to bet, therefore, that, with the passage of time, as the pandemic sort of becomes more and more of a distant memory that this is going to change. I think the problems are much deeper, and it shows up in the fact that, as I argue in the book, that economic and social mobility in America today is close to record lows. Only 35 percent of Americans feel today that they're going to be better off than their parents, and when the American Dream was really flowering, that number used to be 70 to 80 percent of people felt that they'd be better off than their parents. So there's a whole host of data to show here that the problem and the disaffection with the economic system is much deeper than just the pandemic-driven surge in inflation.
Economic booms (6:12)
Is there anything about this economy that four or five years of above-average economic growth won't solve? I sort of recall that in the early ’90s, you could have made a very similar case that we had a nasty recession in the early ’90s. Some people have forgotten about it, but it was a bad recession. And then we had the Gulf War, and there were a lot of newspaper articles saying that the era of fast growth was over, America just couldn't grow fast anymore, and just as people were convinced that the good days were over, the economy took over, internet boom, tech boom, and we had very rapid growth—and, interestingly, it was also a period of high inequality, but people didn't seem to care so much because the economy was cooking and real wages were rising. So is there anything wrong that a little bit of faster growth couldn't solve?
In terms of the fact that I remember living through that era, and I think that if you compare the polling data, it shows the fact that the problems are much deeper now, and the disaffection is much deeper than what was there, in terms of the fact that what solved it back then — even back then, the basic faith in American capitalism was never lost. I think that what's happened now is a feeling that we don't have an equality of opportunity anymore, and that inequality levels now have risen much further than back then. So I think that it's always possible for some hopeful turn to take place, but I'd say that the problems this time are much deeper, and that's what I try and say: Why has this happened? The book is a deep investigation of why has this happened systematically over time. We've gotten to a point now where, across the Western world, leaders are universally, almost, unpopular, and they are also struggling to get reelected. This is happening in Europe, and I argue in the book that capitalism is in worse shape in Europe: much more statist, much more bureaucratic, much more intrusive, and Europe's an even greater regulatory hegemon than America is. So something which is going on across Western societies for this disaffection and feeling that the American government is more pro-business than it is pro-competition, which should be the essence of capitalism.
Pain management (8:49)
But where do you think it all went wrong?
That’s the crux of the argument. As the tagline of the book goes, that capitalism did not fail, it was ruined. What ruined it? As I show, that it is the suite of government habits, that how the government's role in American society has come to resemble that of pain management, which is the fact that every time there is the slightest hint of pain, we administer opiates. That's one of the reasons we have the opiate crisis, where people are just hooked to opiates, because at the slightest pain, you give them opiate to relieve the pain without quite solving the underlying cause of the problem. I think, in a similar way, what's happened with American capitalism is the fact that the government has been trying to socialize risk and take risk out of the system to try and mitigate pain, and in doing so, it's got the economy hooked to constant stimulus, constant government intervention, which is leading to a lot of perverse consequences.
What are those purpose consequences? One of them, as I've argued in the book, is that productivity has declined. Now remember, capitalism is supposed to generate lots of competition, lead to more creative destruction, lead to an increase in productivity, and productivity is the key to economic growth. But in the last 30 to 40 years, we have seen a big decline in productivity growth across the western world, including in the United States.
On the other hand, we have seen a lot of deadwood being kept alive due to all these interventions. The culture of bailouts, the culture of regulation, has kept a lot of deadwood alive in the system, which is not only dampening productivity growth, but it's preventing the entry of new businesses and new firms to come. As a result, the pace of startups in this country today has gone down significantly. It's picked up a bit after the pandemic, but for the last 30 to 40 years, the rate of new startups in this country has declined.
So I think that the systematic increase in the government's involvement in the economy has led to these perverse consequences, and those changes are quite recent. The American government was never this involved at a very basic level. The share of government spending in the economy was just three percent a hundred years ago. It has gone up over time, now we're closing in on 40 percent, the government spending, the share of the economy.
But it's not just that. The culture of bailouts: America never believed that it should be bailing out private sector enterprises. And yet, from the 1980s onwards, it's been an increased culture of bailouts. Before that, America did not do bailouts of private-sector companies, but once the precedent was set with the large financial sector bailout of 1984 of Continental Illinois, you've seen one bailout after another, and get bigger and bigger with each crisis.
And then, of course, you have the entire role that the Fed has played the, US Central Bank, in the way it has tried to micromanage the cycle and always try to act with policies where, on the upside, it's fine if markets rise, but on the downside, it's there to protect and socialize risk, which, once again, has undermined productivity and kept a lot of deadwood and possibly zombie companies alive.
So it's this suite of government habits that I think has corroded capitalism and brought us to this position today where capitalism is so distorted.
Famously, during the financial crisis, President Bush said, in his own colloquial way, “This sucker is going down.” Would you just have “let this sucker go down” rather than bail out banks back in 2008?
Each bailout seems justifiable because, at that point in time, you're in the midst of a crisis, and there's always this fear that if you don't bail out, we will end up being like the liquidationists of the 1929s and lead to a Great Depression. And I think that
“Liquidate farmers! Liquidate labor!” Andrew Mellon.
Totally correct. But I think that the impulse now is the opposite, which is, “liquefy, liquefy, liquefy.” So even in 2008, if you needed to intervene to prevent a financial crisis, they can argue that was justifiable. But after that, look at what happened: the Fed continued to do quantitative easing, to lift asset prices, thinking that high asset prices will be good for economic growth, whereas it only increased inequality because the owners of asset prices tend to be the rich, and put many aspirants of the property market, or buyers of the property market, it put those things out of reach.
And then also the fact that you had, in terms of the last year, when you had the Silicon Valley Bank problems, you intervened again to try and prevent it. And again, the fear is raised that if you don't intervene, you'll have the Great Depression. So I think we need to find a balance here, which is that you've gone from “liquidate, liquidate, liquidate” to now “liquefy, liquefy, liquefy.” And I think that we need to get back to some balance and, yeah, there is a role for government, like in a terrible crisis, but you can't have a government always be there to intervene at this slightest hint of trouble. That is what causes problems.
Populist policy (14:38)
If we indeed live in a populist political age, I would assume that I would see more intervention, and more bailouts, and more pain-prevention, because that's what populism is. Populism is saying that you've been taken advantage of by the elites, it's not your fault, and if it's not your fault, you shouldn't feel any pain, therefore we will intervene to help you. Government will help you. So wouldn’t you expect in the near future just to have more of this kind of thing: more pain-management public policy?
I think that you're right that this trend can continue, because the default path of politicians is to keep doing what they've been doing unless there's a crisis which forces them to reverse course and forces, I'd say, American society then to wake up and say, “This is not working.” But to say that this is a populist thing, I'm not sure, because this is the strategy which has been pursued for the last few years, if not decades, which is what I've argued in the book. So if you're going to keep pursuing the same strategy, then you should not expect different outcomes. If the strategy of so-called populism of more intervention was working, then why should so many people be upset with what's going on?
I've been in the last few days talking about this book. I'm surprised at how receptive people have been to the idea that it's not the government's business to be bail out private sector companies. It's not the government's business to be instituting 3,000 new regulations a year. The average number of new regulations that the government would put into a year has gone up dramatically over the last couple of decades. Now, again, it is not the job of the government to be putting in so many regulations because the more regulations you put in, the harder it is for small and midsize businesses to thrive, and it creates a barrier to entry, because the cost of regulation has gone up significantly, it can be borne only by big businesses, the average business finds it more difficult. And also the lobbyists, then, are able to rewrite regulations in their favor, and they're hired typically by the Big Tech firms or the people with all the money.
I think a populist agenda would favor deregulation. A populist agenda would say that you can't have the Fed run monetary policy which keeps on inflating asset prices, particularly property prices, and makes it harder and harder for Americans to afford a home. And similarly, a populist agenda should be against bailouts, because bailouts typically help the entrenched powerful companies rather than the average person. And as I said, it's time to try something different also because what's been tried so far is clearly not working in terms of making Americans happy.
Catalyzing change (17:32)
Let me ask you this, then: What do you see, then, that makes you think we're going to do something differently?
I don't see anything as yet in terms of that, just because, as I said, the politicians will keep doing the same thing unless there's a crisis. What forces countries to change course, including the countries which are held by liberals as these great paragons of economic virtue like Sweden or the other Nordic countries?
The bond market? Is that the action-forcing entity here? Would it be the bond market?
Eventually, yes. I think that that's it, which that only when the markets stop financing these incredible deficits do you begin to see a course-correction. But what my book tries and does here is, as I said, the first step to a cure is to at least diagnose the problem correctly. So far, the diagnosis that the Biden administration offered was, “Oh, the government needs to double down because we have had this era of small government for the last 30 to 40 years. We need to double down on what the government's been doing to correct all these problems.” But the problem is this, that we never had an era of small government! So to say that now we need to reverse that era is just wrong. As I demonstrate in the book, capitalism has been about just expanding the government over the last 30 to 40, at least the capitalism practiced by the Western societies in the last few decades.
So I would say that you're right that the bond market, eventually, is obviously the ultimate disciplinarian. It did that to Greece, it did that to Sweden, and other countries before that. But we don't seem to be at that point yet, but we could be, because the next time you have an economic downturn in the US, the budget deficit will widen to nine, 10 percent of GDP. As revenues fall, more and automatic spending kicks in, and, after that's done, the ability for interest rates to come down, which typically do to help a country go through a recession, I think will be quite limited in countries such as the United States, because your government spending would've been so high already by then.
If I were to put together a short-but-sweet economic agenda to deal with some of these, I might say, “Boy, you're worried about debt and deficits?” I would say, “What we need is a value-added tax and we need to at least lower the projected pace of spending on social security and Medicare.” So Medicare reform, social security reform, a value-added tax—and if I tried running on that agenda, I think they would run me out of town.
Since we don't have politicians generally calling for that, isn't the revealed preference of American voters for more of the same: “Don't tax me, but also don't take away my benefits,” and off we go. If there was this deep swell for any change that you think might be there, based on maybe your conversations with folks, wouldn't it be already reflected by our politicians? But I don't see that.
Yeah, you're absolutely correct that politicians don't live in a vacuum, they react to a societal chain. But my point is that no one seems to be doing . . . I just pointed out to you that outside of this so-called “tough medicine,” which you just highlighted, there are other things which can be done in terms of drawing the line on bailouts, drawing the line on instituting new regulations. Even Trump came to par, he spoke about the fact that he's going to withdraw two regulations for every one that he puts into place. In the end, though, he ended up putting out as many regulations per year as the Obama administration had done, so there was no change in that.
So I think this tough medicine, which is hard to administer, and societies only bear tough medicine once they see an apparent crisis, not something more insidious, like what I'm describing in the book, maybe yes, but there are things, as I said, whether it's got to do with the conduct of monetary policy, or it's got to do with regulation, or the culture of bailouts, I think these things can change, and the American voter will be much more receptive to it.
What's the option? That the politicians keep doing what they're doing today, the person in office will keep being unpopular and keep losing elections. As I pointed out in the book, as well, and in one of my FT [Financial Times] columns, that if you look at it, the number of politicians across the Western world who are getting reelected is declining. Typically, if you were in office, you had the platform, that if you stood for reelection, you'd get reelected. In the last few years, being an incumbent has become a disadvantage rather than an advantage. So clearly the people are unhappy, and if the politicians are going to keep doing the same thing, they should be more prepared to lose elections once in office.
Well, I think maybe they should be prepared to lose elections. Maybe they all should pray for an AI-driven productivity boom, that'll cover up a lot of bad policy.
Yes, we got that briefly in the late ’90s and early 2000s when you had a big tech productivity boom, which took place with the internet, but that has faded over time, and as I argue in the book that you can keep doing all this great technological stuff, but if you're going to undermine the fabric of capitalism, the creative-destructive fabric of capitalism with much more government intervention and more statist policies, then you should be prepared also to see a decline in productivity, and that will offset the gains coming from technology like AI.
Micro Reads
▶ Business/ Economics
The Economic Populists Have a Point - WSJ Opinion
Pandemic Layoffs and the Role of Stay-At-Home Orders - San Francisco Fed
Is Greece’s Six-Day Work Week a Harbinger? - Project Syndicate
▶ Policy/Politics
Trump Is Wrong About Taiwan's Chip Industry - Bberg Opinion
▶ AI/Digital
▶ Biotech/Health
▶ Clean Energy/Climate
Our Understanding Of How To Modulate Climate Change Is Ballooning – Issues & Insights
▶ Space/Transportation
Advanced Propulsion Researchers from GE Aerospace Successfully Test Cutting-Edge Dual-Mode Hypersonic Ramjet - The Debrief
▶ Substacks/Newsletters
Bad and good arguments for industrial policy - Noahpinion
Forget Adapting to Climate Change - Breakthrough Journal
⤵ My chat (+transcript) with investor Ruchir Sharma on where capitalist economies went wrong