“The rates we’ve had in recent years, including right now, are the lowest in history. The book that I co-authored on the history of interest rates traces back to the code of Hammurabi, Babylonian civilization, Greek and Roman civilization, the Middle Ages, the Renaissance, and early modern history right up to the present. And I can assure our listeners that the rates that they’re experiencing right now are the lowest in human history.”
So says Richard Sylla, Professor Emeritus of Economics and the Former Henry Kaufman Professor of the History of Financial Institutions and Markets at New York University’s Stern School of Business. He is also co-author of the book A History Of Interest Rates (Wiley).
We invited Professor Sylla onto the podcast after hearing his work favorably referenced by the panel convened at the recent hearing held by the US Congress titled: “The Federal Reserve’s Impact on Main Street, Retirees and Savings.”
Based on his deep study across the scope of millennia of human history, Sylla warns we are at a dangerous moment in time:
What’s really unique about the current period is that these low and negative interest rates have not been some accident, but a policy target of central banks (…)
Large parts of the population haven’t seem to have gotten much benefit at all from these central bank policies or even the ‘recovery’. But the rich have done quite well, despite having to compete with one other to pay $100 million for a painting(…)
These low interest rates aren’t just affecting the asset prices though. There’s this search for yield that was going on before the financial crisis and it’s something we probably ought to worry about because money may be being mis-allocated now.
One area in which we see this is, despite low oil prices, the capital markets are feeding a lot of money into oil exploration in the United States. This is not wise allocation of capital because a lot of these shale oil, company oil and gas drillers are not making any money now — so Wall Street is putting money into a business sector where the returns don’t look to be that great. What if a lot of these junk bonds fail as they tend to do, or the shale oil drillers go bankrupt after Wall Street has put a lot of money in there? That’s one of the key worries about very low interest rates such as we’re having now — it causes distortions and mis-allocations(…)
I harken back to Hyman Minsky, whom I knew. Minsky said Stability breeds instability. I think we found that out in the financial crisis of 2007-2009 and I see that now they talk about the VIX being very low and the stock exchange people don’t seem to think there’s much danger out there in the world. If Minsky is right, this attitude of Things seem to be very stable now, therefore I can run out and buy stocks at prices that are at historic highs — that may be setting us up for the next financial problem.
There are a lot of similarities to what’s going on right now and what went on before in the 2007-2009 financial crisis. And people don’t seem to worry about that. It’s like things are really stable now and the Central Banks got us through the crisis without having a Great Depression, so it’s smooth sailing from here. There’s probably too much optimism right now about the economic future(…)
Looking at the tremendous growth of financial markets compared to GDP growth: there used to be a relationship between them that seemed to be pretty close. But in for the last 50 years or so, the financial markets have expanded at a much higher compound rate. What it means is that the world has taken on a huge amount of debt and has been compounding that debt at a much higher rate then economic growth. It does seem to me to be an inherently dangerous situation because all this debt has to be serviced, you have to pay the interest on it. Usually, you have to pay it back at some point. And so if it’s growing much faster and then the economic base that is going to generate the income to pay it back, I think we are making ourselves more vulnerable. It’s true in the United States; it may be even more true in some of the places in Europe where the banks seem to be more highly levered. And in China there’s been a tremendous expansion of credit(…)
And of course, if we’re at a slow rate of growth now and we have another crisis, the rate of growth will be even slower. My fellow economist Robert Gordon claims that we can look forward to a much lower rate of growth in the future than we’ve had in the past. And furthermore, the ordinary people, the ones who are an angry populace now, they’re the ones who are not going to experience much growth at all. What growth we will have is going to generally flow to the top of the income distribution — and in that way of the world is becoming more unequal. It’s a gloomy outlook.
I think history would say it’s more than likely that we’ll have another financial crisis. And based on a lot of what we’ve talked about here today, history says that crisis may not be far off.
Click the play button below to listen to Chris’ interview with Professor Richard Sylla (47m:58s).
Chris Martenson: Welcome to this Peak Prosperity podcast. It is August 1, 2017 and I am your host Chris Martenson. Now I’ve often said that you really need to keep a journal because you are living through financial and economic history. Never before has money printing been tried on such a grand global scale. Never before has the United States been swept by sequential financial bubbles; the lessons of the last ones forgotten in what appears to be record time. But perhaps the most astonishing modern fact concerns the current interest rates seen around the world, ranging from record breaking lows as in the case of junk bonds in Europe today to effectively zero rates in Japan for a long time, or even negative rates all across the Europe Sovereign Structure. We really have to stretch back deeply through historical time to even begin to appreciate what we’re experiencing.
So, to help us do that today is Richard Sylla, Professor Emeritus of Economics and the Former Henry Kaufman Professor of the History of Financial Institutions and Markets at New York University Stern School of Business. He teaches courses in Financial History, Economic and Business History of the United States and Comparative Enterprise Systems. His primary areas of research though include historical studies of money, banking and finance. He is the author of several books including The American Capital Market and the book that draws him to our program today, A History of Interest Rates. Prior to joining Stern, Professor Sylla taught at North Carolina State and the University of Pennsylvania, among others. He received his Bachelor of Arts from Harvard University before studying at the Indian Statistical Institute at Calcutta. He then received both his Master of Arts and his Doctorate of Philosophy from Harvard University. Welcome Professor Sylla.
Richard Sylla: Good morning Chris, glad to be with you today.
Chris Martenson: So, let’s set the stage right here; why are interest rates important in the study? What can you really tell us besides the cost of money?
Richard Sylla: Well I think interest rates are the – the interest rate in economic theory is one of the key prices of the economy. It’s the rate at which we exchange the present for the future or the future for the present. So much of life is about you know, let’s put it in simple terms. A person who wants to take out a home mortgage when they’re young, they don’t have enough money to buy a house and the interest rate is what they have to pay to transfer money from the future to the present so they can buy a house. A little closer to home, for me is that I’m retired now. You mentioned I was Professor Emeritus, and so over the course of my career I had to save up money and transfer it from the present to the future, the future being now when I’m retired. And you know obviously the interest rate, the rate of exchange between the present and the future was very important to me. You know, the lower the interest rate, the more you have to save to have a comfortable retirement. So, it’s one of the key prices in the whole economic system.
Chris Martenson: Well, let’s talk about that for a second because one rule of history seems to have been that savers deserved to be compensated for lending their savings across time as you’re putting it here. Governments have aggressively rewritten that rule and determined, as far as I can tell, for what appears to be maybe the first time in 5,000 years of history that savers deserve nothing. I don’t even know how to phrase the question, perhaps what could possibly go wrong or how do we interpret this?
Richard Sylla: Well, it’s true; the rates we’ve had in recent years including just about right now are the lowest in history. You know the history of interest rates, the book that I co-authored on this kind of traces the history back to code of Hammurabi, if not earlier through Babylonian civilization, Greek and Roman civilization, the Middle Ages, and Renaissance, early modern history right up to the present. And I can assure our listeners that the rates that they’re experiencing right now are the lowest in human history according to all the records that we have.
Chris Martenson: The lowest in human history. Do we have any periods with negative interest rates, for instance?
Richard Sylla: I think they’re very rare. You know one previous period was the late 1930’s when some scholars unearthed the fact that there appeared to be negative interest rates on US Treasury Bills around 1939, 1940, 1941. But it turns out that that may have been a figment because if you had a treasury bill that gave you certain rights about exchanging it for another one and that right had a little option value, you might say what appeared to be a negative interest rate wasn’t really a negative interest rate. It had to do with you know, tax issues and things like that. So, I don’t think we’ve had negative interest rates before.
Chris Martenson: So, nothing like say the Swiss National Bank charging negative three-quarters of a percentage point for any reserves held with it, nothing like that in the history books?
Richard Sylla: No, I don’t think so. I mean they were actually targeting, they wanted to have negative interest rates and the Swiss case you mentioned is a prime example. I should say that there were – the fact, or after the fact negative interest rates when you had great inflations in war time. And the interest rate didn’t adjust and so there were periods where high inflation that people did not expect when it turns out they were getting a negative interest rate. What’s really unique about the current period is that the negative interest rates have been sort of policy target, you know, not some accident of a high rate of inflation during a war, but a policy target of central banks that wanted to install a negative interest rate for some purpose.
Chris Martenson: Well now let’s talk about that, because you know part of my concern is that when you look at the compensation say of the federal open market committee, the Federal Reserve and you look at the backgrounds of the people who are on there. We’ve got some academics; we’ve got some people – a lot of economists. We’ve got a lot of people with legal degrees, law degrees sitting there. Of course the bank presidents who sit on the non-voting part in the regional banks coming up through other means often right up through the system, but the FOMC itself, I look at them, Professor Sylla I don’t see anybody on there who’s got a really deep historical background, such as you have. I don’t see anybody on there who understands sociology, because I think a negative interest rate is as much a sociological experiment as a monetary one. What do you think is their – what are they going on there or at the ECB when they’ve decided to wade into deeply negative rates in real terms even negative and nominal terms. What are they relying on in terms of formulas, theories, ideas do you think?
Richard Sylla: Well I think the – I disagree with you a little bit. I think the members of the – some members of the federal Open Market Committee and some of the European bankers they do know a little bit of history. And I think Ben Bernanke, I can assure you he’s not there anymore at the head of the Fed, but he actually knew a lot of the history of the 1930’s. And what I would say about them, it’s not that they’re ignorant of history but they only go back to the 1930’s. And it’s that the Great Depression is – was a period when the bottom fell out of the economy and people studied interest rate history then and felt that the Fed kept money too tight. And so I would say that the part of history that almost all central bankers know today is the History of the 1930’s. There was a big deflation, which meant that real interest rates were actually high even if nominal interest rates seemed low. And so they remember that history and I would say today’s central bankers base a lot of their thinking on let’s avoid another Great Depression and that’s – to avoid another Great Depression after the financial crisis of 2007, 2009 they decided that the way to do it was not to allow deflation to take place; so they pumped in all this money; you know in the Federal Reserve balance sheet is what quintupled in size in just less than a decade. And I think – so they do base some of their thinking on history and I think they over emphasize it, but they think that deflation is just the worst thing that can happen and therefore we have to pump money out to avoid any chance of deflation. That’s what we’ve basically done with our monetary policy for the last decade or so.
Chris Martenson: So let’s, if we could back up just a second though when we – forget about money as this thing we work hard for. Really it’s an agreement, it’s a social contract and we’ve never had a social contract, which has been written in this way. So, one of the views I hold and this might be unfair is that the federal reserve is not a wealth generating institution, but there are wealth redistributing institutions, something I’ve been long on record for – first put out a piece of work in 2008 saying that this money printing experiment that I saw coming was going to create a pretty ferocious gap between the rich and the poor, mostly due to an uneven balance of financial asset holdings. That’s largely proven true; is it not true that these policies of the central banks are really in effect picking winners and losers?
Richard Sylla: I think so and that’s one of the criticisms that was leveled early in the financial crisis or when we were coming out of it that one thing the Fed did you know it used to trade only in US government debt. And buying and selling treasury, even at times back in the 1950’s they dealt in only short term US government debt like treasury bills. But more modern recent decades they, you know, traded in long term government bonds and short term treasury bills and intermediate security. But what happened in the financial crisis is that while they did in fact, buy up a lot of US government debt; then they began to buy mortgage debt. And the housing of course was one of the main problems and the financial crisis. And what that did was the Federal Reserve went on record as saying that housing is something special. So, we’re going to support the housing market and that’s redistribution in a way because a lot of people live in apartments and don’t benefit from very low mortgage interest rates. So, I would say that one prime example of the Federal Reserve’s Redistribution Policy was to favor housing. And of course you mentioned Chris that the low interest rates had effect on other asset prices and certainly we’ve seen you know Great Bull Market in stocks ever since 2009. I’ve been surprised by the extent of it myself. I mean I did believe that we would have a recovery because it turned out that stocks really dropped a lot during the financial crisis. And usually when returns get to be as low as they were in 2009/2010, the next decade you know study asset prices throughout US history. When returns get to be so low as they were in 2009/2010 you know the next decade is usually better. Well the next decade has been better, but it’s gone a little bit beyond what I thought it would do.
Chris Martenson: Well, you and me both, and we did have a very interesting beginning of what looked like a rollover in the markets in 2016 early. And since then it should be noted that it’s not just the Federal Reserve but we have to look at the Big Three, which is Bank of Japan, European Central Bank, Federal Reserve. And we can toss in Bank of England, Canada stuff if we want. But the G3, those three I just mentioned, their balance sheet expansion has never been faster in all of history since that point in time. In fact, in the first five months 2017, 1.5 trillion dollars of balance sheet expansion, which is of course the central bankers, are saying “We need to keep the financial markets roaring.” And this is where I want to get back to, didn’t – is that not potentially overlooking one of the lessons from say the 1920’s?
Richard Sylla: Well, you mean causing too big an asset boom as in the 1920’s stock market?
Chris Martenson: Yeah.
Richard Sylla: There were also housing markets in the 1920’s that were booming and bubbling. So, yeah I mean I think that’s part of what’s been going on. They have caused stock prices to rise a lot and it doesn’t seem that house prices in general everywhere in the country are soaring, but there’s certain markets in the US, in Canada I guess the whole country has had a housing boom boarding on a bubble. But in the US certain areas, you know, in San Francisco and New York and Florida and Texas I guess have been experiencing rising prices. Some say it’s because foreign money is coming in, you know Russian oligarch and Chinese billionaires are buying housing in the US. But I also think that it’s being underpinned by this low to negative interest rate policy.
Chris Martenson: Certainly a strong case to be made for that. You mentioned San Francisco; there the Board of Supervisors recently announced that to qualify for government assistance and housing there you can have a combined household income of $138,000, which is well above the median income. So, they’ve already sort of thrown in the towel and said something way beyond median income is still not enough.
Richard Sylla: Yeah I understand that couples – two income earner couples in San Francisco are not making enough money to be able to afford to buy a house in San Francisco; so they’re moving out farther and farther into the suburbs or I think I saw an article recently that some companies are transferring their operations to places like Denver from San Francisco because you know people – the people that work for them may be paid pretty well, but they can’t afford housing in San Francisco, they might be able to in Denver.
Chris Martenson: That’s pretty far to go; that’s quite the commute. So listen, clearly there’s a case to be made that there’s some unnatural influence on the price of money at this point in time with Central Banks very aggressively pursuing a set of policies designed to drive the rate of – the price of money, the rate of interest down. No surprise, no controversy there. But are there – what we might call benign reasons for interest rates to drop at this point in time? Is it possible that what role does globalization or increasing technology, things like that – what roles do those play historically?
Richard Sylla: Well, they’re always a factor and I think they’re a factor now. And I’ve been kind of wondering why you know, Paul Krugman of the New York Times writes an article about once a month saying that people plot that the Central Bank policies would unleash a terrible inflation. They’ve been saying that you know ever since the financial crisis. One of the great puzzles is why we haven’t seen more, what should we say consumer price, wholesale price, inflation. In fact the Federal Reserve in the United States claims that inflation isn’t high enough. It’s only 1.5% and it ought to be 2%. So I guess one of the puzzles for us economists is that why haven’t the money printing policies caused more inflation; except possibly in asset prices rather than consumer prices. And I think that might have to do with the nature of modern technology. I’m an economic historian and you know in the 19th century we built a lot of railroads. And in the 20th century we built a lot of electrical utility infrastructure, built highways and all those took a lot of capital. And those were the leading industries of that era a century or more ago.
What I see in the modern world is what are the cutting edge technologies today? Well there are things like Facebook and Uber and Apple. And Apple iPhones are wonderful things but they don’t take a lot of capital, let’s say. They take a lot of human ingenuity and Uber, you know classic case of Uber; it’s a company that doesn’t really have to have much capital. The drivers of the cars buy their cars, which they might anyway. But Uber itself doesn’t really have to have a huge amount of investment. Facebook is another one, so what we call the cutting edge technology of today don’t seem to require much capital, and compared to previous technologies. So like building highways, building electrical infrastructure, building railroads. And so that maybe the demand for capital isn’t so great today; so you combine that with central bank policy to keep interest rates very low. And you know there’s just sort of what Ben Bernanke calls the surfeit of savings in the world, and that’s bringing about our low interest rates. But I think this deserves more study. It’s one of the puzzles that economists haven’t actually explained yet.
Chris Martenson: Yeah, surfeit of savings, I’ve only sort of half cottoned onto that as a concept. I’m also a big fan of an idea that when the Central Bank of Europe for instance throws in nearly 4 trillion Euros over a decade. And even involved in purchasing corporate bonds through private placements, ones that haven’t even hit the market yet. That’s a form of capital or liquidity that also has to be accounted for in the story that goes well beyond savings. It certainly seems like there’s – finding money out there when a Central Bank has just printed a 1.5 trillion in five months, it’s not hard. Of course, the cost of money then comes down, which is the Central Bank policy in this regard.
Richard Sylla: Right, but we have to ask ourselves why isn’t all this – there are many cases in history where money printing led to a large amount of inflation and we haven’t really seen that in consumer prices, although we may be seeing it in the bond market itself. Very low interest rates need very high bond prices. And also the low interest rates seem to be driving up the stock market.
Chris Martenson: I can name three other markets right off the top of my head. One is fine art, another would be rare gems, a third would be Gulf Stream fives and sixes, all very expensive right now.
Richard Sylla: Right, collectibles; you’re talking about collectibles right? These are sort of old assets that are around, that are rising a lot in price, but if you go to the grocery store prices may seem up a little bit, but they’re in general they haven’t had a huge amount of inflation in the last 10 years.
Chris Martenson: Well connect two dots in that. What I was saying really was that because of the way the money was dumped in the market it preferentially went to a very small cadre of people, we’ll call them the rich for the moment. The rich then took all of this money, spent it on the things they care about. Well we saw inflation there. So, trophy properties, diamonds, fine art, things like that and gulf streams, lots of inflation there. Just track the prices, but the money hasn’t made it to Main Street and again now we’re back to sort of the sense of winners and losers in the story. Talking with people in Main Street I find there’s a lot of distress there. I think it starts to explain things like Brexit, rising political/social tensions. You saw the G20 protest maybe in Hamburg or you see that Trump electorate. These are, I think, average people call a Main Street for the moment saying “This isn’t helping us”. That’s part of –
Richard Sylla: I kind of agree with you on that. Large parts of the population haven’t seem to have gotten much benefit at all from these central bank policies or even the recovery. But the rich have done quite well. Of course they’re sort of competing with each other to pay the 100 million dollars for a picture, painting or something like that. But yeah I mean that’s what we’re seeing today.
You know there may be – I think the low interest rates aren’t just affecting the asset prices though, I mean in a sense there’s this search for yield that was going on before the financial crisis and it’s something we probably ought to worry about. Because money may be being misallocated now in the sense the one area that I see except despite low oil prices apparently the Wall Street, the capital markets are feeding a lot of money into oil exploration in the United States. And many people say that you know this is not wise allocation of capital because a lot of these shale oil, company oil and gas drillers are not really making any money now, so Wall Street is putting money into a business that doesn’t seem to be - where the returns don’t look to be that great. This suggests to me that the low interest rates possibly misallocating some of our capital.
Chris Martenson: Oh absolutely, the junk bond prices at this point, US and Europe clearly say that you’re – this is one of the first times in the history of those bonds I can find, where once you factor in inflation and risk and other things that people are accepting the equivalent of a negative yield on junk bonds. It’s astonishing. It’s never happened before in my day; so I look at that and I go that’s odd.
Richard Sylla: Yeah and it suggests that we’re misallocating capital because let’s suppose that a lot of these junk bonds fail, as they tend to do sometimes or the shale oil drillers that go bankrupt after Wall Street put a lot of money in there. That means that we’re misallocating capital and I think that’s really one of the worries about very low interest rates such as we’re having now. That it does cause distortions and misallocations.
Chris Martenson: Oh absolutely and the shale drillers, I will note that among the top shale drillers that are holding collectively around 350 billion in debt right now, not on the equity side, just debt. And so if you say “Well okay, round a few things, wave your thumbs”, they’re getting maybe $35 a barrel at the wellhead. That means under current pricing and current debt the next 10 billion barrels produced have to go to just service that, just to pay the debt down. It doesn’t include the interest costs. It’s an astonishing number when you compare against actual known reserves, you say “Wait a minute; this whole thing doesn’t make sense.” That feels like it could be a misallocation of capital possibly.
Richard Sylla: Yeah it’s not only astonishing; it’s a bit scary I would say.
Chris Martenson: Well so, but we’ve been here before and so one of the things – I was a critic of Greenspan, a critic of – okay I’ve been a critic of all the Federal Reserve chairman, because I don’t believe in their central thesis, which is that they are responsible for managing the boom and the bust cycles, that they can take pride in the great moderation; that they’ve somehow figured out how to fine tune and micromanage us away from having a business cycle historically speaking, business cycles. Let’s talk about those. They feel pretty routine and regular. Why do they happen and have we managed to somehow escape them?
Richard Sylla: Well the old idea of the business cycle was that you know that’s when as I mentioned earlier when you had utility investment, highway investment, railroad investment. Then the economy would – you would sort of over invest for a few years and then people would say maybe the returns aren’t there and you’d have a depression. And those business cycles were three, four or five years. Starting in the 1960’s we had a very long expansion and then we had another long expansion in the 1980’s, a long one in the 1990’s. One not quite so long from 2001 to 2007; so, it seems to be true the great moderation of course applied to that 1980’s and 1990’s, which led people to think well the economy is more stable therefore, we can take more risks. That came to a bad end in the financial crisis of 2007, 2009. I think that you know the business cycle doesn’t seem to be what it used to be and I would relate it to the fact that it’s not so much tied to heavy capital investment in certain areas. As I mentioned, Facebook doesn’t really require that much capital and Uber doesn’t require that much capital. So, maybe the economy is a little more stable now, but that doesn’t mean that you know – well I harken back to Hyman Minsky. I knew Hyman Minsky, you know – Minsky sort of said stability breeds instability. You know, I think we found that out in the financial crisis of 2007, 09 and I see that now they talk about the vix being very low and the stock exchange people don’t seem to think there’s much danger out there in the world. And if Minsky is right, this attitude that things seem to be very stable now, therefore I can run out and buy stocks at prices that are at historic highs, you know that may be setting us up for the next financial problem.
Chris Martenson: Might be, or would you go further and say is?
Richard Sylla: Well, you know you want to be a little cautious, but I say there are a lot of similarities to what’s going on right now and what went on before in 2007, 2009 financial crisis. And people don’t seem to worry about that. It’s like things are really stable now and the Central Banks got us through the crisis without having a Great Depression, so we won’t have that. There’s probably too much optimism right now about the economic future.
Chris Martenson: Well with the Vix actually hitting all-time lows or at least 50 year lows recently on a closing basis, that’s pretty historic low volatility; and of course when you look across the political and then the geopolitical landscape you could make a case that there might be some sources of risk out there.
Richard Sylla: I think so, I mean I’ve studied the political world a lot, and it seems to me the political world is in quite a bit of turmoil and you know the US and Russia seem to be at loggerheads now – the Trump Administration seems to have a lot of trouble getting any traction. There are a lot of China, US Relations are not great. There’s the North Korea/South Korea problem; I mean I see a lot of geopolitical risk out there and our financial markets don’t seem to be paying much attention to it.
Chris Martenson: That’s interesting you know and part of the thesis I’ve been running with is that these aren’t my dad’s financial markets, not my granddads, certainly not even mine starting in 2008, the rise of machines with so much of the volume and the quotes. The quotes, I think 99% now are delivered by algorithms and high frequency trading programs and the total volume in the markets, 50-70% algorithms. This means that there’s a lot less human intervention, so again is this a technology shift? Is there some sea change in how markets operate that needs to be understood better?
Richard Sylla: Well, we have artificial intelligence and I think as you say algorithmic trading is popular now, high frequency trading. And the volumes are fantastic. I first started studying the stock market or participating in it in the 1960’s when I was working on my PhD. And then, you know, 10 million shares was a pretty big day in the stock market. Now I think they do 10 million shares in the first few minutes every day. So, we are living in a different world where there’s a lot more trading going on and the trading volumes are very high and people are watching their screens all the time and pressing buttons. So, it definitely is a different world and of course that can get us into trouble. We had the flash crash, which was a brief period of market drop there a few years ago, and of course the crisis itself that you can’t always get out of your position even though you think it’s liquid. You can’t get out of your position at a price that is anywhere near what you thought you could.
Chris Martenson: All right, well Professor Sylla I’d like to turn now to an idea that on Peak Prosperity we study resources a lot and we think that two E’s need to be combined. One is economics and the second is energy, particularly. So, as you look back through history I’m wondering about if you came across or studied what happens with respect to financial markets, interest rates, if or when nations underwent either rise or fall in the relative resource constraints or abundances that they might have encountered?
Richard Sylla: Well, I think that US History is a pretty good example. We’ve uncovered a lot of resources in US History. We’ve been innovative in extracting metals from the ground and finding oil. The oil industry began in the United States, a lot of mining took place in the United States; so we actually used our resources a lot and that was a source of our prosperity. I would say whenever there were resource discoveries you tended to get booms. I think the classic one that most people know about is the California Gold Rush. When the gold was discovered there all kinds of resources rushed into California and the gold miners didn’t make all that much money, but the people who supplied them with supplies at high prices made good money. So, I think resources, when you discover them they do lead to booms and then the booms usually produce bust, the oil industry is another example. There used to be a lot of wildcat drillers in the 1870’s and 1880’s and a lot of them went bankrupt. At the end of it all Standard Oil under Rockefeller seemed to control a large part of the industry.
So, you know there’s going to be winners and losers in these booms, too and I think that may be going on now. I mean we talked earlier about who is winning and who is losing today and I think we see some examples of that.
Chris Martenson: Well there’s an increasing chorus of people out there saying really heretical things, like infinite growth is not possible on a finite planet. A lot of economics seems to predicate itself on continuous compounding growth. Of course anything growing by some percentage over time is compounding. So, the idea that we have a compounding system of money it feels to me from where I’m looking when I really track resources, what’s going on, you mentioned a lot of geopolitical hotspots. They make more sense to me when I flip on my resource lenses; so if you understand what resources exist in the South China Sea, the Senkaku Island sort of tensions that are happening make more sense. Like China needs access, they understand the resources issue very well. Their behavior in Venezuela belies their actual true intention which is to secure access to oil resources going forward, always has been the case. But when you look at what’s happening with shale drilling and the tar sands, those are technologically gifted genius. I know people in the business. It’s amazing what they’re doing, and yet if you step back I can’t help getting the impression that we’re scraping the bottom of the barrel. So, cast forward 10, 20, 30 years which is a normal sort of projection horizon for a company making a large capital decision. But it should be for our country, as well.
When I do that I say “Wow resources are going to – are no longer going to be there as an assumable input.” Like you can just ignore those. Just we’ll run our economic models, the resources will show up if the price is right. I don’t think that’s true, anymore and I’m wondering about your thoughts on that sort of line of thinking.
Richard Sylla: I think it could be true in the United States but I assume that we’re in the forefront of developments like shale oil and gas production. And there’s probably a lot of places in the world where these resources are not being tapped nearly as much as they are in the United States. In the Unites States, especially going back to our earlier discussion, if we’re putting too much of our capital into getting shale oil and gas out of the ground now, that means we might really want to save some of that for the future. I don’t really think the world is in danger of running out of these resources quite so soon, but the United States could, you know, by over exploiting the resources now run into the problems as you say 10, 20, 30 years from now. And that won’t be bad, as long as we have a peaceful world. But if you combine that with all these geopolitical tensions maybe we would be in trouble. We’d go back to when we had to import great amounts of oil and it seemed like we were at the mercy of the OPEC states back in the 1970’s and 1980’s. That could come back to us. We’re feeling pretty good about our near energy independence now, but I think you’re right that 10, 20, 30 years now from now we might be back to where we were in the 1970’s and 1980’s and have to rely on the goodwill of others to keep our energy available.
Chris Martenson: Well, even still that idea of energy independence let me just frame that for a second. It’s been put out there a lot. I don’t care about energy independence meaning if we add up all the collective BTU’s from coal, natural gas, oil and put them in a pot and say “Oh look we’re meeting most of our BTU needs.” Let’s look at oil because that’s really the lifeblood of any economy. We still import five million barrels a day, that’s about how many are currently coming out of shale after one of the largest potential misallocation of capital, but it’s been a real frenzy of output. We would have to double that output from its current state. Very hard to do if you understand the dynamics of depletion and that business. So, long story made endless, I think we’re just going to be net oil importers for the rest of time. I don’t see any way around that, given the data we have. So, that’s the world we’re in right now, and so that means we don’t really have energy independence from an oil standpoint. I don’t know how we get there.
So, when I look forward on this I don’t think we’re running out of fossil fuels, but when you look at the total shale basins in the world, what other people could do, it looks like the world peaks in fossil output around 2030. I’m off by a decade, its 2040, off by another decade, 2050. Who cares, I’m willing to concede this is very hard to predict. But, at some point those level out and then start really going down now. One of the most durable statistics I have in all of economics is energy consumption against real GDP growth. It’s almost a straight line. The correlation is very high; it’s beautiful. So, when I look at that the conclusion is hey, if we’re going to have more economy, we’re going to be using more energy. This is where I see one of the greatest missteps that’s being made right now, which is the amount of capital, Professor that’s going to be required to transition away from fossil fuels towards something else. It’s going to be the largest output of capital in human history given the scale involved. The question is do you – are people in your profession talking about this yet? Is this being understood or has the resource side really not snuck in yet?
Richard Sylla: The economic historians have probably studied this as much as anyone. Any group of scholars and you know there were transitions in the past you know, wind and sails were the source of energy in early modern history. And the we discovered steam engines that you could run on coal and so we mechanize that and generate power. Remember we used to, in the United States, if you ever read Moby Dick, you know we had our houses lit at night by whale oil lamps and then the whales got harder to find, but right along that time they discovered oil in Pennsylvania, mass production of oil. So oil substituted for, you know, petroleum substituted for whale oil. So there have been a number of transitions like this but of course as you say the world was much smaller then, and resources were much more available in relation to population. Right now we have a population is the highest it’s ever been, what are six to seven billion people in the world now?
Chris Martenson: 7.4.
Richard Sylla: 7.4, so I –and the resources – all the irreproducible resources in the world, some of them have been used and some are still there, but obviously they’re available resources in relationship to population are going down. Then the question you raise is what is the next sort of energy transition and how much will it cost. I mean we’re talking about driverless cars now, electric cars, solar heating, happen to be up in New Hampshire right now and there are these windmill generators on top of the hills here in New Hampshire where there’s pretty good winds. What is the next transition? How much will it cost? I think that’s the issue you’re raising.
Chris Martenson: Well absolutely, so a lot of people say wind that’s a very good energy return on energy invested and so we’re going to lean on wind. The most recent data we have for the world is 2014 from the BP statistical review and in that year I surprised a lot of people when I say if you round to the nearest whole number, wind's contribution to man’s total energy consumption in 2014 was what? And the answer is zero because it was .46%, so we’ve got to round down.
Richard Sylla: Yeah right. I knew it wasn’t much but the question is can it become more? Will the hills everywhere in the world, like the hills of New Hampshire and some in California be covered with windmills? And is that really a solution to our problem. If it were .46% now, can we get it up to 5 or 10%, get some more from solar. That’s the issue. I think I – I’m not so quick to jump on your train when you say it’s pretty clear we’re going to run out of everything in 20 or 30 years because people have been saying that for a long time. And the 1970’s when we had the crisis, my next door neighbor, I was in North Carolina then said, “The World is running out of oil and we just aren’t going to have any more of it” and the economist pointed out that you know oil is not so easy to find, so you’re not going to invest a lot of resources and finding the oil you need 100 years from now, but you will do it for 20 or 30 years. And it seems like for most of my life time, which is 70 some years now people have said “We only have 20 or 30 years of oil left,” but every 20 or 30 years go by then we still had 20 or 30 years. I think that we really have to kind of study history to keep us from thinking we’re about to run out of everything.
Chris Martenson: Well the issue for me is really – it’s a little more nuanced. It involves the energy return on energy invested and you look at the tar sands, yeah there’s theoretically a Saudi Arabia worth of oil up there in terms of volume, but not in terms of energy content that gets delivered back, because you have to use so much energy to power wash the sand in essence and bake it off and take this bit and crack it and add hydrogen to it and there’s all this stuff. So, when you’re done you find in Saudi Arabia we put one unit of energy and probably got 200 units back. In Canada we might put one unit in and get five units back. Totally different equation because you and I and the economy runs on the surplus, not the amount if I can parse it that way.
Richard Sylla: And the investors returns are on the surplus too, not the amount.
Chris Martenson: Yeah so that’s sort of the world we live in. I’m just watching this transition but it really comes down to this. I believe that if we have functioning capital markets in a functioning economy much is possible. 2008 really surprised me, and here’s why. What the chart – if somebody “Chris you got one chart,” I will just show you growth in US GDP against growth in US total credit markets. And of course the credit markets were compounding at about 8.9% a year starting in the early 1980’s, compared to half that for nominal GDP compounding. So, credit markets were growing at twice the rate of income in this case if we call GDP income. And I say simply that’s unsustainable. It broke their – Richard just for a second in 2008 credit markets actually went backwards a tiny bit in terms of total volume, because mostly the shadow banking system reeled in its horns pretty quick. That alone seemed to be enough to get the Treasury secretary in a number of key financial officials to say the whole system almost got taken down. And here’s my conclusion, it’s either compounding nicely at twice the rate of GDP or its imploding. Is that an unfair way to look at it that was my learning from it? It seemed to be – either exponentially happier or deeply unhappy.
Richard Sylla: Well what I would say first just as to the facts, one of the things that economic historians have come up with in more recent research is just what you say. The tremendous growth of financial markets compared to the GDP growth. It used to be a sort of relationship between them that seemed to be pretty close. But in - for the last 50 years or so the financial markets have expanded at a much higher compound rate. What it means is that the world has taken on a huge amount of debt and there have been all kinds of ways of people compounding debt at a much higher rate then economic growth. It does seem to me to be an inherently a dangerous situation, because all this debt has to be serviced, you have to pay the interest on it; usually you have to pay it back at some point. And so, if it’s growing much faster and then the economic base that is going to generate the income to pay it back, I think we are making ourselves more vulnerable. It’s true in the United States; it may be even more true in some of the places in Europe where the banks seem to be more highly levered. And in China there’s been a tremendous expansion of credit in China. I’m sort of surprised that China has done as well as it has – it’s one of the – sort of exceptions of the rule that hardly any country that has a high rate of modern growth runs into trouble somewhere along the way. The Chinese seem to have had a high rate of growth for 30, 40 years now, and haven’t run into any major trouble along the way. If they do run into trouble, I think it would probably be related that the huge expansion of debt there.
Chris Martenson: Yeah.
Richard Sylla: Financial problems.
Chris Martenson: Well so in your research for the book on History of Interest Rates did you come across anything that would either confirm or refute what Reinhart and Rogoff came up with, which was A, that countries with high levels of debt experienced low levels of growth thereafter? And B, that sometimes high levels of debt led to other political, if not geopolitical/war kind of trouble?
Richard Sylla: I think they’re pretty much right about that. I mean we, as you mentioned we had a high level of growth of debt in the United States leading up to the financial crisis, the crisis happened and since that time our rate of growth has been really low compared to previous recoveries from either economic or financial setbacks, recessions of financial crisis. This is the lowest in my lifetime. I think the rate of expansion since the previous crisis is 2% or less and generally in US history the economy snapped back earlier. Reinhart and Rogoff said that you have a period of slower growth after a financial crisis as compared with just an economic recession.
We seem to be having that now and of course, if we’re a slow rate of growth now and we have another crisis and maybe the rate of growth will be even slower. So, one of the puzzles I guess, it’s a forecast by my fellow economist Robert Gordon. He claims that we can just look forward to a much lower rate of growth in the future than we’ve had in the past. And furthermore, the ordinary people, the ones who are sort of angry populous now, they’re the ones who are not going to experience much growth at all, so what growth we do have is going to generally flow to the top of the income distribution and way of the world may becoming more unequal. It’s kind of gloomy outlook and I haven’t taken a position on it myself, but it’s something we really have to study. Donald Trump claims he’s going to get us back up to three to four percent growth; a lot of people seem to be pretty pessimistic about that. I’m just – I haven’t taken a position yet but I want to see what happens. It could be that with better economic policies we could grow a little bit faster, but Bob Gordon says “We don’t have the great technologies of the past that fueled growth with us anymore;” so, we should look forward to slower growth.
Chris Martenson: Yeah I’ve been on Facebook a lot; it doesn’t help me do anything productive; so I can’t say it’s an awesome technology. But in closing, so let’s imagine you have ten $1.00 bills and you get to place them on red or black. Red is no more financial crises in our lifetime, black is hey, we might have another financial crisis in our lifetime. This is sort of harping off of what Janet Yellen very famously recently said. Where would you put your money, you know red no crises, black a crisis possibly?
Richard Sylla: Can I split my money?
Chris Martenson: You can, these are ten individual dollar bills.
Richard Sylla: I guess what I would say is financial crises seems to happen throughout history with some regularity. I would put maybe $7.00 or $8.00 on red if that’s financial crisis in our lifetime and maybe $2.00 or $3.00 on black, no financial crisis. I mean we did have a long period from the 1930’s to 2007, 2008 when we didn’t really have a financial crisis in the US, so it’s possible we could go for a time without that. But I think history would say it’s more likely that we will have a financial crisis. And a lot of what we talked about today says it may not be that far off.
Chris Martenson: All right, well I have to ask as a friend and colleague of Hyman Minsky, if you could put words in his mouth, where do you think he’d place his money.
Richard Sylla: I think he would put probably $9.00 or $10.00 on the financial crisis is coming and he would feel good about that right now because he would say most people now think that we’re in a very stable time where the stock market has gone up for 10 years and interest rates are low. And most people are very complacent and that’s the stability that he said breeds instability. And so I think he would – he would put most of his money on the financial crisis not too far off in the future.
Chris Martenson: All right, well fantastic. Thank you so much for that. Thank you so much for your time today. This has really been fascinating. I could keep going, but we’re out of time. So, where can people follow your excellent work and what’s next for you?
Richard Sylla: Well, I put out a popular biography of Alexander Hamilton; he’s one of my specialties to take advantage of all the interest in Hamilton that came out late last year. That’s my most recent book, but I want to do a little bit more serious book on Hamilton’s financial policy. He set up our financial system; he got the economic growth ball rolling in US history. And I think people ought to know a little more about that. But you know, they can go to Amazon and look at my various books and watch for the next Hamilton book that will be coming along in a year or two.
Chris Martenson: Well fantastic. I have a personal interest in this. My great grandmother Mary Hanlin Parmley wrote one of the first plays that went on Broadway about Hamilton, that went back turn of the last century. Early effort for a woman of that era, she was quite the ticket. So that was –
Richard Sylla: I’ve seen some reference to that; it wasn’t quite as popular as the latest Hamilton.
Chris Martenson: No, but it did okay. It had a run; it was on Broadway; so she was an amazing character but that certainly sparks my interest in that. So – well we’ll look for that book. Thank you very much for your time, again, and this has been fascinating.
Richard Sylla: I’ve enjoyed it, Chris.