Flawed Axioms

Axiom: an established rule or principle or a self-evident truth

Kabul Airport at the time of the US withdrawal

1. The United States is the most powerful country in the world

So much is perception rather than reality. When Nixon finally abandoned the US Dollar gold peg in 1973 a devaluation event did occur, but the dollar ultimately retained its reserve currency status. The value of a dollar, it was argued, rather than being convertible to real money and thus deriving its value accordingly, was implicitly backed by the power of the United States' industrial and military might. The perception remains that the US dollar is worth something, a fact evidenced by the dollarisation of a number of economies. This is also evidenced by the many transactions around the globe still being settled in greenbacks - from real estate to the international commodity markets. A one dollar note is in actuality nothing but a piece of paper, which represents a claim on nothing, and is only as valuable as what it can be exchanged for, which is entirely dependent on what the receiver of your dollars perceives those same dollars can be further exchanged for.

Inflation was a persistent theme both leading up to the abandonment of the gold standard as well as in the years afterwards. Only once Paul Volcker was appointed to the Federal Reserve and implemented short-term interest rates of almost 20% did inflation subside. Yet the fact that such interest rate policy could even be sustained by the United States economy is testament to its fundamental strength at that time. Unemployment spiked to 11%, but the persistent inflation abated. Volcker's policy remains applauded among Austrian economists to this day - notably Volcker was appointed by a Democratic President, although reinstated for a second term under the Reagan administration. Ultimately, the perception of US strength was well founded at the time. The situation in the world in July 2022 is vastly different.

"There are decades where nothing happens; and there are weeks where decades happen" - speculatively attributed to, and possibly misattributed to, Vladimir Ilyich Lenin.

Like the city of Hong Kong, so much of the West's perceived greatness is vestiges of another, ever-distant era. In his recent book Ray Dalio points out that in the later stages of the cycle, a nation that was once great still perceives itself to be great and maintains its military spending and approximate standard of living through increasing debt levels and money printing. This contrasts against early stage powers which do so through productivity gains and savings that bring economic surpluses thereby affording the same privileges. In May of 2022, the US Consumer Price Index stood at 8.6%, while the Fed funds rate sits at 1.75% at the time of writing. The markets speculate a series of rate rises in the short and medium term, but even the most "hawkish" commentators don't put the accumulated rate cycle top above the current CPI. Unlike in the 1970's and 80's, the US economy has record debt at both federal and municipal government levels, meaning that even modest interest rate levels - by historical standards - would force politically untenable spending cuts as the proportion of interest expense relative to tax receipts grows.

In the first quarter of 2022 the US' economy contracted by 1.4%. Unfortunately, this figure comes at the - supposed - beginning of the interest rate cycle. For reference, the Chinese economy grew at 4.8% over the same period, and, - shockingly for some - the Russian economy grew by 3.7%. Germany's economy grew by 0.2%. The US economy is still regarded officially as the largest economy in the world on a nominal basis. The unique ability of the US - bestowed upon it by the US Dollar reserve currency status - to print and export vast amounts of its own currency is a privilege consistently abused throughout history by all who have possessed this superpower. Cracks are beginning to show, evidenced by the weaponisation of the dollar, prompting central banks around the world to engage with China to establish RMB denominated trade. Israel has added the RMB to its reserves while Saudi Arabia looks to trade its oil for the Chinese currency.

In order to diminish the prospects of challengers to US hegemony, or to put "allies" in their place, nominal GDP is used as the preferred measure with which to compare the US economy to others. While such figures make Boomers feel warm and fuzzy, PPP comparisons are in reality more relevant. On a PPP basis, China is already 20% larger than the US in terms of GDP. Russia's economy is larger than the UK's but smaller than Germany's and Indonesia is the 7th largest in the world. PPP is more relevant in the current situation because it reflects what a country can actually afford in the event of a military conflict. For example, China can produce more military equipment at lower costs than can the US, and this is reflected in its PPP basis GDP of US$ 30 trn compared to the US's US $25 trn. It also goes some way to explaining why Russia, often referred to as having an "economy the size of New York State" is able to sustain a prolonged conflict. Germany and Japan are significantly larger economies when measured in PPP terms.

Ultimately, while the US is still powerful, it is a declining power and has already been surpassed by China on a PPP basis in economic terms. Militarily, the messy retreat from Afghanistan and growing internal divisions betray an unwillingness to fight in costly wars, especially in far off places. If true, this significantly diminishes the US' ability to defend vassal states such as Australia and Taiwan, a fact - which if confirmed - would further damage the perception of US power. Much like Thailand - from where I am writing this - has throughout its history, countries around the world would quickly look to adapt to the emerging order of the world and dump their dollars in the process.

2. The West is Free

Boomers love to pontificate on China's inevitable decline. Maybe they are right, although their obsession that a system wherein the people are so "suppressed" is doomed to fail is indeed a thesis unlikely to stand up to historical scrutiny. There have, after all, been many highly oppressive empires that were also unimaginably successful. Further undermining the Boomers' self-comforting arguments is the precarious situation within the societies in which they themselves reside, denouncing far off lands to which they have never been as "authoritarian" while double-masked and adhering to the latest government Covid-19 decree. Supporting Ukraine and "our greatest ally" is understandably a core tenet to the boomer philosophy, irrespective of whether one has been to, or has any connection with the places whatsoever.

That so many consider foreign media as "propaganda" while not questioning the sincerity of the narrative pounded into our collective ears is a point of significant concern. Every empire worth its salt exhibits a halfway decent ability to manipulate the masses through education and mass media. Yet while many Western countries did, at some point or another, generally agree that voicing one's opinion was reasonable, such a consensus seems no longer to prevail. Societies change over time, eventually new rules are considered acceptable. To question the narrative now comes not only with the possibility of upsetting someone, but now of being an outcast within your own society. The very meaning of democracy has morphed into a type of mob rule, which allows for the censorship of ideas to be achieved subtly and pre-determined decisions to be made under the guise of free will.

For example, my own home country of Australia appears no longer to possess any level of freedom in meaningful areas of its foreign policy. The incumbent government - consistent with its predecessor - engages weekly in insults against our largest trading partner and increasing discussions of "preparing for war". It would be pointless to elaborate on the futility of any war against China from the standpoint of Australia. China's largest city has approximately the same population as the whole of Australia after all. We also rely on Chinese imports in many facets of life.

Mostly, the argument goes "China is evil, and suppresses their people's rights". This is possibly true. However, almost all examples of Chinese authoritarianism have parallels in the West. China's brutal lockdowns exhibited comparable indifference to those in Melbourne. Australia did after all prevent its own citizens from leaving or returning for almost two years. Similar - almost carbon-copy policies - existed in China. New Zealand's border closures were subsequently deemed illegal by the courts - whatever that means. Over time, the political keywords in Australia have changed from everyone having "a fair go" - which one could also extend to having a fair go at the argument - to "keeping Australians safe".

It would appear, an Orwellian future of perpetual war and fear awaits us. But this is just political, so let's just give up our political rights and enjoy life right? Perhaps, but anyone who has travelled knows that Western countries are not where one goes to find freedoms in business or lifestyle. Riding around Penang on a rented motorcycle in a race against the incoming thunderstorm is one of my fondest memories of Malaysia, yet one entirely impossible in Australia. While not always constitutionally enshrined, many countries around the world offer many more soft freedoms than what is achievable in the west. It is time to recalibrate our minds. The regimented, closed-minded routine of many Westerners is not really freedom.

3. Central Banks can be trusted

OK, admittedly, this is hardly an agreed truth anymore. But speaking of calibrating our minds, this one hits very close to home. Four years of university-level finance indoctrination and over half a decade in some of the world's largest financial institutions had led to almost permanent, Maoist level brainwashing with respect to all things macroeconomic. I was recently referred a piece by Kang-Soek Lee and Richard A. Werner on Reconsidering Monetary Policy.

The data suggests overall that statistical causality runs from economic growth to long-term interest rates. Nominal GDP growth provides information on future interest rates better than interest rates inform us about future nominal GDP growth.

I would encourage you to read the article in its entirety. While this is not the forum within which to make the case that equilibrium economics is entirely wrong, we are talking about flawed axioms after all, or, as Professor Werner puts it, the law and the prophets. If we imagine for a moment that the relationship between interest rates and nominal GDP growth has been misunderstood, we are really imagining that central bank policy is indeed without impact - or rather the intended outcomes are entirely unachievable with respect to the current thinking.

Perhaps all of our esteemed central bankers are already well aware of Professor Werner's findings. This would certainly explain a lot, although the empirical findings outlined in the article further underpin the argument that central banks should not even exist.

Our main aim is to maintain price stability, i.e. to safeguard the value of the euro. - European Central Bank

Iterations of the above statement are essentially the argument for the existence of central banks all around the world. Yet, could 2022 be a more pathetically dismal report card? Inflation has reared its head across almost all developed and emerging markets, and yet the Fed moves cautiously, as though approaching a cliff edge while blindfolded, placing each step just the tiniest bit further than the last. The ECB has proven to be even more cowardly, with rates at 0% while consumer prices are rising faster than in recorded post-war German history, not to mention the rest of the old continent.

The current situation is entirely of their - that is to say, the central banks' - making. Decades of loose monetary policy, artificially low rates and quantitative easing have led to unimaginable distortions in asset prices and the market broadly.

One of the best pieces of advice I ever received through my years in banking was that "all these institutional products are bullshit, remember, there is always an equivalent product in the retail bank, we just give them names". Bankers constantly reinvent financial instruments that already exist, in some form or another, in order to circumvent some regulations, or get themselves paid more, or at the very least make themselves look smart. Central banks are no different. There are dozens of instances of currency debasement throughout history, from the Chinese, to the Spanish and now the US - to name but a few. While the vernacular may differ, the cycle is the same. Governments and societies live beyond their means leading to increasing indebtedness. Levels of debt become unsustainable, and need to be paid down, but tax hikes are met with resistance, especially when an economy is stagnant and a society is in the later stages of the cycle and approaching collapse.

So interest rates don't impact economic growth and central banks are debasing their currencies. So what? Well, let's at least agree that central banks cannot be trusted. Most likely they are distracting us from the largest transfer of wealth in our lifetime. In any case, the case for central banks is weaker than ever and the case for decentralised finance is stronger than ever before.