The View From Olympus: The Big One

A spectre is haunting the world, the spectre of a world-wide debt crisis.  Could the coronavirus epidemic in China be the trigger?

World debt levels, both public and private, have reached undreamed heights.  The United States is now running deficits of a trillion dollars a year. Other countries have higher deficits proportional to the size of their economies.  Private individuals here and elsewhere find they can only maintain a middle class standard of living by taking on ever more debt. Where does it end? In a debt crisis.

A debt crisis occurs when lenders get sufficiently scared of losing their principal that they refuse to lend, or at least to lend at affordable rates of interest.  Like all market dynamics, this is not a rational calculation. Markets are forever balanced on a knife edge between greed and fear. Under normal circumstances, greed wins and people continue to invest.  But when fear takes over, the plunge can come with remarkable speed. Fed Chairman Ben Bernanke was not exaggerating in 2008 when he said the United States was within 48 hours of not having an economy. If lending stops cold, so does everything else.

The question is not whether a world debt crisis is coming.  The question is where and when it starts. My bet has long been on China.  China has towering levels of debt, public and private. To keep its economy growing, China has built whole cities that have no inhabitants.  Municipal governments have made enormous loans to overbuild because they wanted the construction jobs. The overbuilding has gone on at the same time individual Chinese have overpaid for their residences.  The intersection of those two facts will mean a debt crisis in China. Given China’s large role in the world economy, a debt crisis in China will soon spread. 

We are already seeing evidence that the coronavirus epidemic is affecting lending.  An article in the February 5 New York Times, “Virus Threatens an Oil Industry That’s Already Ailing,” reported that:

Forty-two oil and gas companies filed for bankruptcy protection in North America last year; since oil prices plummeted in 2015, there have been 208 bankruptcy filings by producers, involving roughly $122 billion in aggregate debt. . .

“It’s a blow,” said Steven Pruett, chief executive of Elevation Resources, a Texas oil company (speaking of reduced Chinese demand for oil because of the virus). . . “Credit availability is already tight, and it’s going to get much tighter.”

A debt crisis is not merely a garden-variety recession.  Both governments and individuals must cut their spending not just to the level of their income, but below that level so they can begin paying back the debt.  Governments that have their own currency (unlike, say, Greece, which is on the Euro) usually decide to inflate their currency so they can pay back money worth less than that they borrowed.  But that scares lenders even more and it also wipes out the savings of ordinary people. Both private and government spending collapse simultaneously, creating a long-lasting depression. (Contrary to what you were taught in Economics 101, you can have a depression and inflation at the same time; look at Venezuela or Rhodesia.)

For America’s armed forces, what a debt crisis means is a vastly reduced defense budget–not $750 billion, but perhaps $75 billion, if we can afford that (in 2020 dollars).  The fact that almost all our defense spending goes to preparing for wars we are not going to fight, with Russia and China (nuclear powers do not fight each other, for good reason), means we could have more useful armed forces than we have now at such vastly lower costs.  I am currently writing a book on what such armed forces might look like.

So the question of first importance for most peoples on earth is whether the coronavirus could be the trigger for China’s coming debt crisis, and China’s for the rest of the world.  Because China still has a state-controlled economy, she has options in a debt crisis we do not have. But exercising those options risks starting an inflationary spiral, which would intensify the crisis of legitimacy the Chinese Communist Party is already facing over the coronavirus epidemic itself.  Thanks to having President Trump in office, the U.S. might take unilateral moves to keep the debt crisis offshore. But if this proves to be “the big one” and a debt crisis overwhelms China, the U.S. and everybody else, then the whole state system will face a legitimacy test. If it fails, God help us all.

Interested in what Fourth Generation war in America might look like? Read Thomas Hobbes’ new future history, Victoria.