Posted on July 8, 2010

Niall Ferguson On The Future Of America's Economy

Niall Ferguson at the 2010 Aspen Ideas Festival: I'm a financial historian by training, but I also teach a course at Harvard with the grandiose title, "Western Ascendancy: Mainsprings of Global Power." And one of my great concerns in teaching that course...is to ask why it was that after around 1490, completely against what anybody at the time would have expected, a small group of pretty impoverished and fractious kingdoms on the western end of Eurasia and Europe ended up taking over the world, and the great oriental empires--not least being China--stagnated and were ultimately subordinate. The question I posed to my class last year was: Have we arrived at the endpoint of, say, half a millennium of Western predominance? And is that one of these historical changes so huge that we just can't get our heads around it?

My working assumption is that the financial crisis that began in the summer of 2007...has accelerated a fundamental shift in the economic balance of power. Even before the crisis, Jim O'Neill and his team at Goldman Sachs were forecasting that China's gross domestic product would exceed that of the United States in 2027 at half past four on October the 15th, which is just a little pinch of salt to remind you that all such projections need to be taken with a pinch of salt. Still, whether it's 2027, '28, '29 or '30, the interesting thing is the first time they made that projection, they thought it would be 2040. Every time I see Jim, I say, "Have you moved the date forward yet?" because he made that 2027 call before the financial crisis.

The financial crisis unquestionably has hit the United States much harder than China. Their stimulus worked much better than ours...The first point I just want to put out there is: it's hard to believe, under these circumstances, that the acceleration, the shift, if you'd like, from West to East hasn't been speeded up by this crisis.

The second point is: Of course, power is not just about GDP. It's not just about the economy. Power is also about the ability to project hard power through military means. And some people in Washington like to comfort themselves by saying, "We can still do that way more than they can. Count their aircraft carriers, count ours."

But one point that follows from the financial crisis which is terribly, terribly important is that by combating our crisis of private debt with an extraordinary expansion of public debt, we inevitably are going to reduce the resources available for national security in the years ahead. Because as the debt grows, so the interest payments you have to make on it grow, even if interest rates stay low. And on current projections, the federal debt is going to be absorbing around 20 percent, a fifth of all the taxes you pay, within just a few years. The item of discretionary federal expenditure most likely to be squeezed is, of course, defense. And there are lots of historic precedents for that. So, I fear that the financial crisis doesn't just impact on the economy. It actually impacts on American power in the hardest sense.

Third, and penultimate point: The legitimacy of the American way--of what Francis Fukuyama and others confidently in 1989 called liberal capitalism or capitalist democracy--has been fundamentally called into question by this crisis. I've just come back from China. The thing I heard most often was, "You can't lecture us about the superiority of your system anymore. We don't need to learn anything from you about financial institutions, and forget about democracy. We see where it's got you." We have lost an extraordinarily important component of power in this crisis: the power to pontificate, the power to talk about things like the "Washington Consensus." Who now uses the phrase "Washington Consensus" with a straight face? And, so, China is gaining.

And, of course, it has, in the process, gained a very important kind of leverage through what I've called "Chimerica." As a huge source of capital, financing the U.S. current account deficit, it now holds 10 percent, one-tenth, of the entire federal debt in public hands. That is a lever, it's an important form of power, it's financial power.

Unlike Britain in 1945, which was crushed by debt and slow growth, doomed to imperial decline, I think there is a way out for the United States. I don't think it's over. But it all hinges on whether you can re-energize the real mainsprings of American power. And those two things are: innovation, technological innovation, and entrepreneurship. Those are the things that made the United States the greatest economy in the world, and the critical question is: Are we going to get it right? Can we revive those things in such a way that, in the end, we grow our way out of this hole the way the United States grew its way out of the 1970s and, of course, out of the 1930s?