1644 FBF: Averting A Global Depression with Richard Duncan Author of ‘The Dollar Crisis: Causes, Consequences & Cures’

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My pleasure to welcome Richard Duncan to the show. He is an expert on dollar collapse. He is an author, an economist, a consultant and a speaker. And he's the author of three books on the dollar crisis and the economic crisis. And today we'll talk about specifically his latest work, history. He just got back from touring the US for the last four weeks and he is coming to us from Bangkok today. Richard, how are you?

I'm well. Thanks for having me on your show.

Well, the pleasure is all mine. So tell us about your latest work and especially about the quantity theory of credit and how it played a huge role in the crisis.

Okay. Well, the new book is called the New the Breakdown of the Paper Money Economy. And the theme of this book is that when we broke the link between dollars and Gold in 1968, this removed all the constraints on how much credit could be created. And afterwards, credit in the United States absolutely exploded. Total credit. And by that I mean government debt, household sector debt, corporate debt, and financial sector debt. In other words, all the debt. It first went through $1 trillion in 1964, and then over the following 43 years, it expanded 50 times to 50 trillion by 2007. And this explosion of credit is the thing that really created our world. It made us much more prosperous than we would have been otherwise. It ushered in the age of globalization by allowing the US to finance its massive trade deficits with Credit denominated in paper money. The problem is of course in 2008 the private sector in the US couldn't repay its debt. And at that point the global economic crisis started. And ever since we have been teetering on the verge of collapsing into a new Great Depression. The only thing that has kept that from occurring is the massive annual trillion dollar budget deficits by the US Government.

You know, that's an interesting statement you made in the beginning of that response where you said this explosion of credit, which is a massive explosion of credit, is what allowed us to become so prosperous. Now the real question is, is that prosperity, was that an illusion created by credit or legitimately leverage and financing does allow for growth which can become legitimate growth ultimately if used prudently. I just wanted to kind of get your take on that because I think to a decent extent, if not a large extent, the prosperity is a bit an illusion.

Well, I agree to a considerable extent it has been something of an illusion, but a very good one. When credit expands, it's rapidly, it drives the economic growth. And it's easy to understand how credit growth drives economic growth. As long as credit is expanding rapidly, then the consumers have more money to spend, so they spend more. And therefore businesses are more profitable and they hire more people and they expand their capacity, they even pay more taxes, so the government has more money to spend. And all the while asset prices keep going higher and higher. The thing is though, the day always comes when the credit can't expand any further. And that day arrives because eventually the amount of credit in the system is so great that the income of the public simply is no longer sufficient to service the interest on all the debt. And then they begin to default. And this whole world that was built on ever expanding credit then begins to implode. And that's what we experienced starting in 2008. So this expansion of credit has been going on for so long now, four and a half decades, it's really completely restructured the entire global economy. It played a big role in the US being de industrialized and moving from a manufacturing based system to a service based system based on finance and real estate. So that completely changed the structure of the US and the global economy over a multi decade long period. So this was a long lasting illusion. And now the danger is that if credit begins to contract significantly, then we are going to experience an equally long and severe multi decade economic crash or depression.

It's interesting that we're talking so much about credit because it has largely been ignored, frankly in my opinion. You know when you hear the inflationists and the gold bugs talking, they're always talking about how Nixon closed the gold window in 71 and that's what changed everything. And the government could print money ad infinitum and there was no restraint anymore. But they really don't talk about the creation of credit. They talk about the creation of the money supply. And in the Great Recession that we're still in, it's funny that we haven't had more inflation, frankly, in my opinion. But I think the reason for that is largely because it's not just about money supply. Now the money supply has increased dramatically, but the supply of credit has actually contracted. And I think it's a balance between the two. And, you know, money is credit, of course, you could say that. And maybe I'm not kind of drilling down enough or making enough distinction between the two. They're not exactly the same. I'd just like to get your take on that.

Right. Well, I think this is a very fascinating subject and this is something that I write a lot about in the book. People, as you say, focus a lot on 1971 and Nixon closing the gold window. But I think an even more significant step occurred a few years before that, in 1968. In 1968, President Johnson asked Congress to change the law. Up until that time it had been a law that the Federal Reserve had to maintain at least 25% gold backing for every dollar that it issued. And Johnson, there had been no problem with the Fed doing that after World War II because the US had most of the world's gold. But they actually came up against that binding constraint in 1968, and at President Johnson's request, they removed that requirement. And afterwards the Fed could issue paper money without having any gold backing whatsoever. And at that point, that is when the nature of money changed. Before then there was a very clear distinction between money and credit. In those days, money was gold and credit was credit. Then if you took a dollar bill to the Treasury Department, at least in theory, they had to give you some gold for it. Now they'll just give you another paper dollar. So there's no longer any real difference now between money and credit. A dollar bill, for example, what's the difference now between a dollar bill and a 10 year treasury bond? They're both essentially credit instruments. The dollar pays no interest and the treasury bond pays next to no interest. So the distinction between money and credit has become blurred or perhaps disappeared altogether. And that's why in this book I introduce something I call the quantity theory of Credit. Which is an adaptation of the quantity theory of money. They say the quantity theory of money is the oldest surviving economic theory dating back to the 1500s. And that's the thing that all of monetary policy and monetarism and the idea was, and still is, that if you increase the amount of money in a country for whatever reason, you discover a new gold mine or you print a lot of paper money. Well, what happens is you get a short term economic boom, but the boom doesn't last very long because pretty soon you have inflation and the inflation kills the boom. So you have a short term boom, the short term bust, and generally not too much damage is done. But the thing that has changed now, well before you could only expand the money supply for a short while in most cases because gold was money and there was a limited amount of it. So you tended to have short term booms and short term bust. But what has changed is, as I said, the nature of money is completely different now. Money and credit are the same thing. So there's no longer any point in monitoring the traditional monetary aggregates like M1, M2, M3. The thing that we have to monitor now is C, in other words, total credit. This number that I've mentioned has increased from $1 trillion to $50 trillion in just four and a half decades. There has been a. And the thing that. So this is what I call the quantity theory of credit instead of the quantity theory of money. And the important difference between the two is that whereas you could only expand the money supply for a short time, creating a short term boom followed by a short term bust. Now, in our world that we've lived through for the last five decades, we've been able to expand the quantity of credit 50 times in 45 years. And that explosion of credit has created an unprecedented global economic boom. But the danger is now, if this credit begins to contract in any significant way, that we are going to spiral into what the economist Irving Fisher described as a debt deflation depression.

Hasn't it already contracted massively though? I mean, and when it contracted, as the deleveraging was occurring, it was really actually sucking up more dollars because the dollar still happens to be the reserve currency for whatever amount of time that lasts. And it actually strengthened the dollar. It was kind of counterintuitive.

Well, the number that I use is reported by the Federal Reserve. This total credit number that I'm talking about, they report it in their flow of funds data that they publish every three months. And this total credit number, it hasn't significantly contracted. In fact, it flattened out, which was already quite unusual, and now it's expanding a little bit again. And the reason it didn't contract is private sector debt started contracting because a lot of defaults took place. But that contraction in private sector debt was offset or even more than offset by the expansion of government debt. The US government debt has, because of the budget deficits, it's expanded by $5 trillion over the last four years. And it's been that expansion of government debt that prevented total credit from contracting and therefore prevented us from spiraling into a debt deflation and debt spiral.

Let me take a brief pause. We'll be back in just a minute.

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I guess the classical inflation happens when a larger supply of currency are chasing a limited supply of goods and services. And it sort of makes you wonder, like you made an interesting statement a few moments ago. You said money creation can only happen for a limited time. Did I hear that correctly? And if so, why would that be? Why, why can't money creation just go on forever? Of course it leads to inflationary collapse eventually and it leads to Zimbabwe and Hungary and Argentina and Weimar. But what really limits it other than that ultimate demise? Or is that what you're referring to?

Well, what I meant to say earlier is that before when gold was money, when we were on a gold backed monetary system, you could only expand the money supply for a short while because there was only so much money. There was only so much gold.

Yeah, it was limited. It was. That's, that's why they call it sound money, right?

That's right. That's exactly right. The government had nothing to do with it.

Yeah.

And. But of course, it's an entirely different world now that we've moved on to a fiat money system.

Yeah. So why though would there be a limit on the amount of money creation? It seems to me like when it's complete fiat, it can just go on forever. Yes, it's destructive, but can it just go on forever? I mean, like I've heard the deflationists say, and it sounds like you might be one of them. I'm not sure yet. But I've heard them say, make statements like this, they can't print enough money to stop the deleveraging. And the deflationary forces out there, they're bigger than the amount of money they can print. And that never made sense to me, Richard, because what's to. There's no limit on the amount of money that can be created.

Well, you're right. Now there is no limit on how much paper money that the government can.

Create or electronic money. It's even easier than paper. It's not even paper. It's just electronic.

That's right. I mean electronic.

When I say I know, it's a metaphor. I don't get it.

Paper anymore, I guess, which is cheaper. They don't even have to buy the paper or the ink.

I know, it's ridiculous.

So, yes, I mean, they can continue to do this, but there are a number of varying forces at play here. We would have already had hyperinflation a long time ago except for one other completely separate development that's occurred more or less simultaneously with this explosion of credit. And that development has been globalization. Because of globalization, this has resulted in extreme deflationary pressures in the world. And that's because as a result of globalization, it's no longer necessary to hire someone in Michigan to build a car and pay that person $200 a day. Now you can hire someone in India and pay that person $5 a day to build a car. So this represents a 95% drop in the marginal cost of labor. Your next worker. The cost of hiring your next worker just fell 95% because of globalization. And nothing like this has ever occurred before. They say there are three factors of production. Land, labor, and capital. The cost of one of them has collapsed by 95%. So this is extraordinarily deflationary.

I agree.

This is putting downward pressure on the price of all the manufactured goods. And that's the reason we've avoided so much inflation so far.

Right? Right. And I agree. I mean, we've imported deflation or exported inflation, I guess you could put it either way, to other countries through goods. And the world, for the first time in human history, is awash in goods. I mean, goods are plentiful, prices are cheap. It's amazing. But here's the thing. Once we have already, and I'll use a word that has a negative connotation, but exploited all this cheap labor, which it seems like the global supply chain has done a pretty good job of that already, with China being the workshop of the world, India and the Philippines being the call centers of the world, and the code writers and software producers of the world. So we've already done that. I mean, where do we go next? That. That has already hit the hedonic index. The the exploitation of cheap labor has occurred. It's, it's dropped by 95%. And now we actually see labor costs going up, although slightly because it's so much cheaper than America still. But we see wages rising in China, so, so aren't we. Hasn't that already occurred, that that's already priced into the global economy?

Of course it has occurred to a considerable extent. And yes, over the last several years, wages in China have gone up. But you have to keep in mind that China now is at the very peak of a very long economic bubble. And there's a very real possibility that China's bubble is going to pop. In fact, I would say it's almost certain. And when it does, wages are not going to continue to go higher. In fact, they're very likely to drop in China. Only a few years ago, when the US crisis started, China's trade surplus with the US contracted for that one year. And the headlines in China were 20 million factory workers lose their jobs and have to go back to the countryside.

I remember those videos were rather striking. When we saw the video of the workers literally leaving the factories, that was pretty shocking to see that.

Exactly. And now it's very likely that wages in China are going to stop going up now that their bubble is beginning to deflate. Now they could have a very hard landing, or they may have a more soft landing like Japan has had for the last 20 years. But either way their wages aren't going to continue appreciating. And I mean, let's not become too optimistic about the level of Chinese wages. 80% of the people in China still earn less than $10 a day. And so if the Chinese wages ever went to the astronomically high level of $15 a day, the jobs would just move to India where there are easily 500 million people who would happily work for $5 a day. So I think there's a whole lot further to go in this process of pushing down wages in the developed countries like the United States and Europe. There are still many more jobs that can be shipped to India and China and Vietnam and India, Indonesia, given how dramatically lower wages still are there relative to the US And Europe. So there's a whole lot further. This globalization deflationary pressures can drive us down.

Well, that's interesting and fair enough on all of that. I would just say as a one skepticism that arises is that yes, maybe they can get $5 an hour or $5 a day labor versus $10 a day labor. However, what real difference does that make in the price of a Product that is already 95% lower than labor cost in Westernized, prosperous, Westernized countries, or I should say Westernized countries living under the illusion of prosperity like America. How do you like that one?

Right. Well, you know, for instance, as technology continues to advance in the future, the Americans may have the option of consulting a doctor in India over the Internet or Skype and paying that doctor 90% less than they pay their American doctor. Putting all the American doctors essentially out of business. Or you know, I mean, that's a bit of an exaggeration.

I get the idea.

One example of how globalization could continue to put downward pressure on the wage structure across the spectrum in the U.S.

Yeah, very interesting, interesting stuff. So you see a deflationary future then, right?

Well, I think the future, I think everyone needs to understand that after this four and a half decade long credit induced global economic bubble, now the only thing that is preventing us from collapsing into a depression is the government. The governments are spending trillions of dollars in budget deficits and financing. A lot of this is paper money creation. So going forward, whether or not we have inflation or deflation is going to depend on what the government policy is. And when you try to project out five or 10 years into the future, you really can't say with any certainty what the government policy will be at that point because we don't know who the government will be.

Well, generally though, I mean two things just generally come up there. And I love the way Bill Bonner with Agora Financial, the Daily Reckoning. I'm sure you're familiar with Bill. The way he said it was interesting. I remember reading a long time ago in one of his newsletters he said politics always list listing like a boat list to the left. It generally, the nature of the political thing is it becomes more liberal, government becomes bigger. Certainly we don't know what the government will be like 10 years from now. But if you just look at human nature alone, politicians throughout history have always pandered for votes. And the way they do that is by offering free stuff to people. Who was it? George Bernard Shaw? A government that robs Peter to pay. Paul can always count on the support of Paul.

And so that generally to me says money creation and a tendency to have QE3, 4, 5, 6, 7, QE92, call it by whatever name you want. But more money creation. Deflation is too hard a pill to swallow because it's really destructive. Maybe more so than inflation in my opinion because deflation causes people to wait and waiting reduces the velocity of money. And when you Reduce the velocity of money. That's a more. Feeds more into that spiral. So it seems to me that the preference is to inflate your way out of the debt, inflate your way out of the promises you've made. That seems to be the best business plan for politicians that want to win elections, you know, and keep their jobs.

You raised a lot of interesting points there, going back to the beginning of what you were saying just now about politics tending generally to move toward the left. Everyone should not forget that we have only had democracy in the west, universal, universal voting for less than 100 years. It wasn't that long ago where, just a few centuries ago, where we had landed aristocracy, the kings had complete control of everything. And so if you look back to what happened, it hasn't always moved continually to the left, even within the last 100 years. For instance, the last time we had a credit bubble like this was during the 1920s. And that grew. Credit bubble came about for a similar reason. We broke the link between dollars between. Well, between money and gold during World War I. To fight the war, all the European nations went off the gold standard, and they created a lot of paper money to fight the war in Europe, and they issued a lot of government debt. And all the debt and paper money issued to fight World War I led to a credit bubble that we call the Roaring Twenties, similar to the one that we have now. When that bubble popped, politics didn't necessarily move to the left in Europe. Politics took a hard turn to the right. The Germans became fascist and took over Europe, and the Japanese became fascist and took over Asia. And democracy was almost completely wiped out in the U.S. it took a shift to the left under FDR, and FDR in a sense, saved capitalism from itself. So it's not certain that things will necessarily keep moving, as you say, toward the left or toward greater democracy or social equality.

I don't mean greater democracy. I just mean greater pandering. If you look at Communist revolution in Russia, for example, that was a movement toward more free stuff, essentially. If you look at the Nazi Party, that was the. That was the National Socialist. So it's sort of. I don't know, I guess one could debate whether those were right or left movements actually, depending on how you look at it. I don't know, maybe you disagree with me. You're welcome to. Just a thought.

Again, interesting issues there. But I think in the United. I think in the United States, everybody should recognize that the sort of system that we actually have in reality is not what it's presented to be, we're told we have a capitalist system. But in fact there's very little about the kind of system that we have in the United States now that is capitalist. For instance, the government spends 24% of GDP. That means one out of every four dollars is spent by the government.

That's insane.

And of course, as you have already mentioned, in addition to that, so that's not capitalism. But, but also under capitalism, gold was money and the government had nothing to do with it. Now the Fed creates money and manipulates its value. And the growth dynamic is completely different. Under capitalism, economic growth occurred through investment and savings. In other words, businessmen would invest, some of them would make a profit, they would save that profit or accumulate the capital. Hence capitalism and repeat investment and savings, investment and savings. That's how capitalism created growth. But in our system, our system has been driven by a completely different process. For the last four decades our system has been driven by credit creation and consumption and more credit creation and more consumption. And that's created very rapid economic growth. But now the danger is it looks like this new system which I call creditism instead of capitalism, it looks like credit is expand any further because the private sector can't repay the debt that it has already. And so when you really look at the reality of our economic system, there seems to be a tendency to think that most of the government money is spent on supporting poor people. But that's not really true. I mean the government spends so much in so many ways. It really supports every segment of society, the very wealthy, the middle class and the poor. Our entire social structure is built around government spending and government intervention. And so it's not as simple as a left right argument in a 19th century sort of framework. Really our entire structure of our society is built around the government spending 24% of GDP. Almost every major industry is supported by the government one way or the other. And 50% of the households are receiving some sort of government support. So we don't have. This isn't capitalism. We already have some sort of government directed credit driven economic system. We're just not managing it very well.

Fair enough. You won't get any disagreement from me on any of that.

Unfortunately. You are right on. You are right on with that. Well, hey, give out your website and I'm sure people can get your books on Amazon.com and all the usual places.

That's right. Yes. My website is richard duncan economics.com and the latest book is called the New Depression the Breakdown of the Paper Money Economy. My business is, I'm a consultant and speaker, so I frequently travel around the world making speeches and meeting with normally institutional investors.

Well, fantastic. Thank you so much for joining us from across the world and we appreciate your thoughts and your insights. Very interesting.

Thank you. It's been a pleasure talking with you.

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