Was that the Peak?

Every system has its limits. With the current coronavirus economic shutdown, I am starting to wonder if we just saw, experienced and passed the peak of our current economic system. Looking back through history we often see people and societies who thought they were living in remarkable times, but in reality their times were no more or less remarkable than others. That is, we have a tendency to overestimate our own importance and the importance of the times we live in. In nearly all situations that assessment is correct. Things do indeed usually revert to the mean. Crisis after crisis seems at first to be a shift, but within months things are nearly back to the way they were. But when we look closer, each crisis creates a crack in the windshield of the system. In general, the windshield holds, but eventually all windshields break. When that happens there  can be a dramatic restructuring of society. We can only truly determine this after the fact and more often than not these large transitions are driven by war and destruction.

The last truly great world shattering event was the collapse of the Soviet Union and the OECD countries have not had a major structural change in nearly 70 years. The last great social transition in the capitalist world was caused by the two world wars, which one could easily argue were in fact one war with a pause in the middle. The world before WWI was still a world of aristocrats, empires, and a very unequal society. When this world finally came crashing down at the end of La Belle Époque/Gilded Age (1880-1914) it cost nearly a hundred millions lives. The first world war marked a clear and final transition from an agrarian and aristocratic society to a liberal and industrial society. This transition had been ongoing for a hundred years with the inventions of steam power, locomotives and electricity. But it took the war to begin that final transition.

The first world war left many issues unresolved, particularly in Europe. It took a brief time of peace and then another global conflict to conclude this transition to the new world order we still live in. The transition was only complete after the second world war when Europe’s economic capital and its political capitals had be decimated. This opened a financial and economic space for workers and the middle class to rapidly build capital and political power, creating progressive social democratic states that dramatically improved the health and wealth of most of their members. Since this momentous transition we have continued along a path has seen bumps in the road, but whose trajectory has been fairly steady. After the post-war booms, we began to liberalize and privatize our economies all while offering greater  civil liberties for individuals. This trajectory of progress did see a notable economic inflection point in western societies in the 1980s.

It is now very well documented that during the past forty years wealth creation has disproportionately favoured the richest instead of the working population. There has been a slow but steady transfer of wealth from the workers and to the capitalist class – the class of people who own the capital. Workers have kept up their lifestyle by taking out additional debt and by counting on the appreciation of the values of their homes, which have generally increased in value faster than wages – un untenable long term trend. This inversion in the 1980s from a middle class growing in wealth and power to a middle class losing wealth and power is attributable to the social and political structure we have collectively chosen. These structures can change. It is not easy, it is not fast, but when it does happen it can signal a significant shift whose outcome is often difficult to predict.

There was already a general consensus that by 2019 we had pushed our planet to an ecological and financial limit. The stock market was at record highs by traditional metrics (price to earnings) and global warming was galloping ahead at breakneck speeds. The scientific consensus remains that we were and remain on track for global warming that will bring modern civilization to a halt. There are technical solutions available to this problem, but what we were lacking was the political will (and structure) to execute and scale up these solutions. The ecological crisis was in reality a consumption crisis.

Within the metrics of the old economy based on oil and cheap products from developing countries, we were over-consuming and creating excess greenhouse gases (not to mention garbage and resource depletion). In terms of solving this problem of environmental degradation, there are basically two school of thoughts. The first one argues that we should aim for degrowth and live more modestly. This is rooted in a certain belief that the we must live in harmony with the natural world and that, at the end of the day, the planet would be better off without these pesky humans. The second school of thought can be summarized as technological salvation. That is, we can innovate our way to a world where we live within the limits of the biosphere. I am firmly in the second camp.

I believe that there is an economy that allows all people to enjoy a high quality of life, the ability to travel and eat a rich diet, but that is also within the limits of our planet (and other planets too ;-). I also believe that this approach to the environmental crisis is much more palatable to the general public. If you try to tell everyone they need to sacrifice their quality of life for the planet you are unlikely to get widespread support (it has been tried in the past). To get to this world of ecological harmony between human society and the biosphere, we need to combine innovation with finance and politics to drive our civilization forward. This is no easy task. To achieve such a transformation it is critical to understand the foundations of our civilization. I cannot possibly achieve such an explanation in a blog post, but I hope to point out a few key facts derived from others.

Ray Dalio, the founder of the world’s largest hedge fund, has explained that there really four core drivers (video) of the economy and society. Solving these four items or improving them will be the bedrock of any solution we come up with. In order of importance they are :

  1. Inventiveness and creativity (which drives productivity and is fairly stable)
  2. Short term debt cycle (crash every 9 years or so)
  3. Long term debt cycle (crash/restructuring every 75 years or so)
  4. Politics (internal (domestic), external (international), how we deal with each other)

He goes on to explain that there are four key ways to deleverage (reduce the amount of debt as a function of assets) is,

  1. Print Money (central bank)
  2. Write-Off debts (various people can write off debt, but that hits their balance sheets and has knock on effects)
  3. Redistribution of wealth (from rich to poor)
  4. Austerity (has lots of negative side effects)

Of the first four factors in our economy, creativity is by far the most important. Technology – whether it be in the form of machines, business processes, or software is the core driver of human wealth. As people have said, “if we don’t make stuff, there is no stuff” and if we do not make stuff more efficiently than before we are no wealthier than before. Ray Dalio published a review of the last 500 years of GDP, and when you look at it you can barely see the crises that happened throughout the centuries.

Last 500 years of GDP Growth, where are the crises?

The point is that we are living through an economic debt crisis right now, not a creativity problem. Technological innovation and the restructuring of the economy will allow us to change the system for the better and start on a new trajectory that is onwards and upwards.

If we accept that the main solution to our problems is technological innovation, then we need to focus our attention on deploying the technology that will help us continue our growth and improve quality of life. I firmly believe that the path forward is through green, carbon free (or low carbon) technology. We already have a lot of the technology such as electric cars, clean energy, biodegradable materials, etc. The main challenge that remains is mostly political.

We need politics to restructure and invest so that we can deploy green technology on a massive scale. This deployment is akin to the war efforts of WW1 & 2. The Green New Deal is very much in this vein. De-growth is not a solution. De-growth would condemn millions if not billions to a lower quality of life, less education and a return to the dark ages. Growth through green tech is our only path forward, but the obstacles remain political – not technological. To overcome the political barriers there is going to be some pain. The question that remains is who will take on the burden of this transition?

Since the 1980s, inequality has increased while social mobility has decreased. We are now at a point where many millennials and working class families no longer see a path to the “American Dream” of a nice house, cars and a healthy family with a bright future. The rise of inequality is well documented and if you agree with Thomas Picketty’s work (which I do), then we can agree that this growing inequality is not a random event, but it is rather inexorably linked to the capitalist social order that we have chosen. In fact, the inequality is partially linked to these short term and long term debt cycles that allow the wealthy to leverage their money to grow their investments faster than the actual income of people (which is driven by productivity to a certain extent). The debt cycles themselves are based on a deeper social structure that is well outlined in Picketty’s latest book, Capital et Idéologie.

Turning back to the current crisis. I will venture to say that we risk seeing a serious re-evaluation of the things we buy, invest in and do with our time. Much of this will be driven by large factors such as access to capital and debt, some of it will be linked to social changes such as social distancing and some of it will be driven by politics. As an example, China was already slowing last year before COVID took over the scene. With their society past its demographic peak it was somewhat understandable that we had (temporarily) passed a production peak. Due to China’s size this will inevitably spill over into other countries and economies. The COVID cirisis will on exacerbate this trend. The other major factor that COVID will have is the debt challenge. As an example, if commercial real estate is much less in demand, we will see a corresponding decrease in its value. This impacts mortgages, leverage and the health of both real estate holders and their banks. The consequences are hard to predict.

To end on a positive note, I do see an opportunity to use the COVID crisis as a global event that unites us in a common cause. Most nations have a crisis or a war as a central rallying point within their collective imagination. The French have the revolution, the British have the second world war and the Battle of Britain, the Americans have Pearl Harbour, the Russians have Stalingrad, and the Chinese have their own revolution and fight with the Japanese. Until now, there has not been a single global event to unites everyone around the world. If we can place COVID in the collective imagination as a global conflict that we fought and beat together, we may able to leverage this event to work on global challenges such as climate change and our ecological transition. As discussed above, this will take not just speeches, but a true changing of our politics and politicians as well as a financial structure that actually accounts for the degradation of the environment and drives capital to a low carbon, high productivity economy. I remain optimistic that we can make this transition, but it will only happen if we vote and fight for the right types of leaders and institutions.

Published on May 17, 2020