Chris Andersen and Frederick McCarthy have been great friends and mentors to me for many years since I met them at Drexel Burnham in the late 1980s.
My friends at Money Map Press and Sure Money have been wonderful supporters of my work. Mike Ward is the greatest editor in the business. Valerie Dowdle is the force behind Sure Money and was invaluable in bringing this book to press. Elizabeth Latanishen is a constant source of energy and ideas at Sure Money. Greg Madison helps make sure that my weekly market reports get out on time and make sense. If all of Baltimore were run by Mike and his team, the city’s problems would be solved.
My teachers have been among my most important lifelong influences. Arnold Weinstein, Edna and Richard Salomon Distinguished Professor of Comparative Literature at Brown University, has been a lifelong friend and intellectual and moral influence along with his incredible wife Ann. Mark Taylor, Chairman of the Religious Studies Department at Columbia University, has taught me Hegel, Kierkegaard, and a thousand other things and is a wonderful friend.
I also had the privilege to study with the equivalent of the 1927 Yankees in literary studies as a graduate student at Yale University in the early 1980s: Harold Bloom, Paul de Man, Geoffrey Hartman, Thomas Greene, J. Hillis Miller, Peter Brooks, Frederic Jameson, R.W. B. Lewis and Peter Gay. Jacques Derrida and Umberto Eco would stop by to lecture and meet with us from time-to-time as well. I sometimes pinch myself to remember how lucky I was to interact with these great minds.
And while I haven’t seen them since leaving Vanderbilt Hall, my first-year teachers at New York University School of Law had a much greater influence on me than I realized at the time: John Sexton (civil procedure), who went on to become the dean of the law school and later president of the university; the late Daniel Collins (contracts); Sylvia Law (torts); James Jacobs (criminal law); and Lawrence Sager, now Dean of the University of Texas Law School (constitutional law). Former Dean of the law school Ricky Revesz brought me back to NYU after many years and for that I am very grateful as well.
Going further back, Professor John Halperin first inspired me to want to read and write when I met him at Camp Lenox, and my high school teachers at Paul D. Schreiber High School in Port Washington, New York, William Mock and Blaine Bocarde, taught me how to read and write.
Last but certainly not least, 25 years ago I had the good fortune to work at Drexel Burnham Lambert, Inc. for a brief period of time. That experience was a crash course in finance followed by a second crash course in human nature and markets when my two-man firm was chosen to manage the Drexel Burnham Employee Partnerships in the 1990s. My childhood friend Jonathan Sokoloff, who has brilliantly guided the pre-eminent private equity firm Leonard Green & Partners for many years, generously helped bring me to Drexel and while I have thanked him privately many times I am pleased to do so publicly here.
I am also grateful to have had the privilege to work with Michael Milken, Lowell Milken, Richard Sandler, and Peter Ackerman managing the Drexel Burnham Employee Partnerships and on other projects. I am confident that history will show not only that Michael, Lowell, and Drexel Burnham were ill-treated by the U.S. government, but that Drexel democratized capital in ways that will be felt for generations. Michael changed the world and paid a huge price for doing so, but like many artists and revolutionaries was not sufficiently appreciated while he was accomplishing his greatest feats. History will be kinder to him than his contemporaries.
INTRODUCTION
The Committee to Destroy the World
In a theater, it happened that a fire started offstage. The clown came out to tell the audience. They thought it was a joke and applauded. He told them again, and they became still more hilarious. This is the way, I suppose, that the world will be destroyed – amid the universal hilarity of wits and wags who think it is all a joke.
The 2008 financial crisis didn’t materialize out of thin air – and neither will the next one. The worst financial crisis since the Great Depression was caused by policy errors that encouraged economic actors to borrow too much and spend or invest the money unproductively – and the next one will follow the same script. Surveying the debris of their work after the crisis, politicians, central bankers and regulators swore they would never allow such a crisis to happen again. Predictably, their promises were broken virtually the moment they were uttered.
By the time the first edition of this book was published in early 2010 under the title The Death of Capital, financial markets had stabilized but economies were still struggling to recover. Almost six years later, they are still struggling – except the world is much more leveraged, the geopolitical landscape is much more fractured, American politics are more divided, and policymakers have run out of answers.
Post-crisis economic reforms followed two paths: heavy regulation and activist monetary policy. Both of them missed the mark because neither addressed the rising tide of debt that is steadily suffocating the global economy. In fact, all of the responses to the financial crisis involved the creation of more debt. On the surface, it appeared that conditions were improving but under the surface the imbalances that caused the crisis were intensifying.
The post-crisis recovery was based on a mirage: an epic accumulation of debt created by central banks lowering interest rates to zero and engaging in trillions of dollars of quantitative easing. In their wisdom, policymakers decided to solve a debt crisis by creating more debt out of thin air, guaranteeing an even more severe crisis in the future. And it wasn’t just the United States that saw its debt grow significantly. Debt also increased in Europe and Japan after the crisis. But in China, the country most responsible for driving the post-crisis global recovery, it exploded beyond reason. China’s growth was built on the biggest debt bubble in history.
China’s debt explosion was either ignored or cheered on by the financial press and Wall Street. These observers adopted the unfounded belief that China was exempt from normal economic forces. Some of us dissented from this view and warned that China’s debt-fueled growth was unsustainable, but our voices were drowned out by the bubbled masses. But when China’s economy began to slow sharply in 2014, it became apparent that China was playing a role in the post-crisis global economy analogous to that played by the U.S. housing market before the crisis. In the mid-2000s, the U.S. housing market created huge amounts of debt that not only inflated housing prices at home but ended up inflating asset prices around the world. In a similar fashion, China’s so-called “economic miracle” inflated the prices of commodities, real estate, and other financial assets around the world. In 2007, the world experienced a debt crisis that originated in the U.S. housing industry and radiated out into the global economy. In 2016, the world faces a debt crisis that originated in China and commodities and is spreading out into the global economy. The common ingredient is excess global liquidity created by central banks.
According to the McKinsey Global Institute, China’s total debt increased from $7 trillion in 2007 to $28 trillion by mid-2014.1 To place these figures in context, household debt in the United States increased by $7 trillion in the period leading up to the financial crisis in 2008. And America’s federal deficit increased by roughly $7.5 trillion between January 2009 and mid-2015.2 So China, an economy only 50 to 60 percent as large as the United States, saw its debt increase by three times as much as America’s household debt grew during the housing bubble or, alternatively, three times as much as America’s federal deficit grew during the first six-and-a-half years of Barack Obama’s presidency (a period that included four consecutive years of $1 trillion deficits). Moreover, much of China’s debt was directed into wasteful and unproductive real estate and commodity investments that will never produce a reasonable return or generate enough income to service or repay the capital that funded them. So much for China’s “economic miracle.”
In a globalized world, the effects of China’s epic debt explosion were not confined to that country’s borders; China’s unconstrained borrowing created