A sober view on democracy, perpetual GDP growth, debt, central banks


Today I’ll attempt to de-construct the very complex world we live in and explain why the establishment’s chosen course of action (more debt and money printing) was the only option we had to avoid (or delay) a complete breakdown of the system.

Since the 2008 financial crisis we’ve been applying the exact same prescription, in fact we doubled up the efforts – in the last decade alone alone, global credit market debt grew by 11% per year, central bank balance sheets by 17%, while real GDP has grown by only 3.9% annually and population by just 1.2%. Unfortunately those actions only worsened the magnitude of a future collapse. We failed to realize a chronic problem that no one seems willing to confront: That we can NOT keep growing forever and that we need to redesign the system. This is a very difficult fact to accept, so we keep muddling through hoping the world will somehow fix itself.


Most developed countries live in democracies, which is a great achievement of humanity but one that is slowly and gradually pushing us closer to the edge of the cliff. We blame politicians for constantly failing to live up to their promises but we wouldn’t vote them if they were to tell what needs to be done to avoid what lies ahead. Would we vote someone promising to cut 20-30% social spending & pensions, to increase taxes, to reform labor law and make it easier to lay-off people? Would we vote someone advocating humanity to default on the gigantic accumulated debts which would probably lead to 20-30 year great depression and possibly war? So what exactly do we blame politicians for? Sure, the system was captured by the establishment which is interested in preserving the status quo, so corrupt and incompetent politicians are the choices we are given in a democracy. But for the other part (the honest politicians) they’re simply trying to keep up with what we perceive as our rights or entitlements. In a way, they have an impossible task at hand. We want the best of both worlds, we feel entitled to everything we conquered in the past but we fail to realise that the world changed and we can no longer afford all the promises we made to ourselves. There’s 1 exception though, the banking sector, who get the upside when things go well and socialise the losses when things turn sour, but for the other 99.9% of population, we need to accept that we can’t have it all and something’s gotta give!!

Perpetual GDP growth?

If we look at how the world operates, we see it was designed in a way that only perpetual GDP growth can sustain it. We need to collectively grow 3-4% if we don’t want to see jobs destroyed. We need to grow >=1% just to keep up with global population growth (which is around 1% these days), otherwise the new people wouldn’t be added to the workforce. Then we have productivity improvement. As efficiency grows, so does production, without having to hire more people. Assuming each of us improves productivity 1-2% every year (seems a reasonable assumption), then the world needs 2-3% growth just to keep up with jobs. But that is an impossible task. How can we assume perpetual growth in a finite world?? Our ecological footprint (the area of land and water we need to operate our economy) shows we’re consuming resources 50% faster than they can be regenerated. We can’t keep growing forever in this finite world! That is just a mathematical impossibility. Growing 3% year means doubling in size every 23 years! Sooner or later we will use up more resources than the Earth can replenish and we will destroy the planet!

Looking closer to the 2 main long-term drivers of economic growth it becomes clear that the planet is reaching its limit:

Population growth:

The world’s population has been growing at about 1.7% per year since 1950, however the rate is slowing down to 1.06% today and likely to be under 1% going forward. If we were to keep growing at today’s rate of 1.06% we would be 10.5 billion by 2050 and 18 billion by 2100. Can our planet handle that many people? Hard to tell, but certainly not if everyone’s living standards are those that the citizens of the Western countries enjoy today. We would need 3 or 4 planets. Perhaps that’s why Elon Musk recently said he wants to colonise Mars and get millions of people there if we are to ensure that humanity has a future.

Joking aside, it’s no surprise to see natural forces coming into play to prevent population growth from expanding. Today’s Western women have on average 1.3 child, far below the 2.1 replacement rate. The developing world is following this trend and fertility rates are also diminishing fast (with exception of Africa). I believe this is Mother Nature’s response to our irresponsible actions on the planet. Infertility rates are the result of our degraded lifestyles – the food we eat, the stress we live under, the polluted air we breathe, etc. Our planet doesn’t have capacity to feed properly the 7.3 billion people we are today, so we’re forced to produce genetically modified foods and other junk foods to satisfy our needs. If my grand-grand-mother was alive and were to visit a random supermarket today, I wonder was much she would recognise as edible food! On this note, I strongly recommend a documentary called “Origins”, which was a game changer for me.

But low fertility rates are also the result of irresponsible government & central banks actions. People are struggling to afford themselves, let alone 2-3 children. The degraded purchasing power as a result of central bank’s induced inflation is leading couples to have less children. Ever higher inflation is forcing us to work harder and harder to keep up, to have less leisure time and more importantly to have less time (and patience) to reproduce (Japan’s government is encouraging couples to have more sex in a desperate attempt to defy natural forces). This is perhaps the first time in history we’re seeing the young generation worse off than that of its parents.

A friend of mine recently asked “why would I bring up a child these days, in this bankrupt, over-polluted, violent and hopeless world?” You probably shouldn’t think about these things when deciding to have a child or not, but I definitely see his point.


The other component of growth is productivity which is driven mainly by technology improvements. If we need to grow 3% year and population growth only accounts for 1%, we need to collectively be 2-3% more productive every year. I’m not an expert in this field but many people argue the boom in technology improvement is set to lose steam in the coming years. One of the major elements of productivity growth is investment, but companies are hoarding cash and engaging in financial engineering (stock buybacks, borrowing close to 0% to pay dividends to shareholders, etc) instead of investing in a new factory or buying new machinery that would create jobs and improve long term productivity. You can’t blame them, that’s a consequence of central bank’s financial repression that leads to this misallocation of capital & investment. People and companies, those that could generate businesses & jobs, seem to be in a paralysis, as if they could sense something is wrong with the world economy, so they end up hanging on to their jobs, postponing their dreams and delaying investments .. waiting for the crisis to unfold. This “burden of knowing” is not helping neither us nor the economy. Life would probably be simpler if we were more naive …

So if population growth and productivity growth are decelerating, how can we keep growing 3%?


The solution to keep up with growth has been DEBT, which was added to the mix to fill the demand void stemming from declining incomes. Global credit market debt has been growing at 7.9% a year since 1970, much faster than the “reported” numbers of GDP growth (~4%). How can the world’s debt grow at twice the rate the underlying income grows for 45 years?

Once the world engages in a debt binge, there’s no way back. Debt creation reinforces the loophole, as in, by adding debt to the system we necessarily need to continue creating debt just to keep servicing the interest payments from the original debts. But debt per se is not a driver for long-term growth. If used for investment purposes (as it was originally conceived for), then it’s a powerful tool. However what we’re seeing in the last decades is that debt’s being used to fuel consumption, to allow people, governments, companies to consume today (and hence contribute to GDP) at the expense of tomorrow. It essentially steals from future generations (who will need to carry the burden of debt). This is a troubling sign necessary to perpetuate a giant con of economic prosperity. Once the borrowers have maxed out their borrowing power, there is no more expansion of debt or additional debt-based consumption. This is known as debt saturation and it’s what we’re experiencing today. Flooding the financial sector with more credit no longer boosts borrowing or brings consumption forward. That explains why today $1 of newly created debt only contributes to roughly $0.2 of additional GDP.

If we don’t grow, we’ll need to spare a larger and larger share of our income to service our debt, eventually making it unsustainable. And as more and more of our income goes to service our debts, less will go to consumption (which in the US accounts for 70% of growth), hence less growth.

So either we accept that we can’t growth forever and that means re-designing the system with lower pensions, lower social spending (impossible in a democracy), less consumption (do we really need a new car every 4 years?) or we keep increasing the debt to fill in the gap – and push the burden to our children and grand-children.

But if total global debt increased 40% since 2007, how can we keep servicing the debt?

Central Banks:

Central banks have come to the rescue by artificially keeping interest rates as low as possible and bringing down debt service costs to sustainable levels (for governments, households, corporations). If rates were at 2006-07 levels, the world would simply implode. That’s why we’re seeing rock bottom rates across the board. US 10 year yields are still hovering around 2%, but I strongly believe they will soon come close to 0% (in line with Japan and Europe). The lower the rates, the more people / companies / governments take on additional debt. And the more debt we take, the lower the interest rates needed to be to keep the system in balance. You don’t need to be a genius to know how this will end…

I’m not a big fond of Central Banks, I must admit. But to their defence, there’s not much else they could have done. They’re bailing us out by filling the gaps of a dysfunctional democracy, one where voters don’t want to face the truth and demand ever more rights and ever less responsibilities. As a consequence we end up electing the wrong people to run our countries, corrupt and dishonest politicians that play the music our ears want to hear. And so with deteriorating public finances, central banks are forced to step in. They need to suppress interest rates for 2 reasons: 1) to make debts more serviceable for everyone and 2) to boost financial asset prices, so that we can keep receiving our pensions (pension funds and insurance companies invest in stocks & bonds and they assume perpetual growth of 6-8% – so if stocks and bonds don’t grow at that pace, we need to accept lower pensions). The wealthy people and investment community understand this dynamic, so they invest heavily in these financial assets, making huge profits and exacerbating inequality as a consequence. Is it fair? Probably not. Are they free riders? Yes, you can say that. What do they add to the world? Not much, less be frank. But you can’t blame them for that. They figured out how the world works and take full advantage of it. Of course Joe & Mary could also play this game, but they are misinformed and don’t feel comfortable gambling their hard earned savings. And when they do, it’s generally at the end of the cycle when bubbles are about to burst (when mainstream media starts telling them to buy stocks, that they returned 20% over the last 5 years, etc).

The outcome is that whilst the poor make 1% return on their savings (if they have any, which is increasingly difficult considering inflation grows faster than their incomes), the rich make 6-8%, exacerbating inequality and creating social tensions.

Perpetual QE?

Another reason (less mentioned in the news) why Central Banks artificially keep rates so low is to alleviate Government’s debt service costs, or in other words to cancel debt. Developed world’s central banks now hold north of 20% of all public debt, so essentially Governments don’t need to pay interest on that portion (technically they still pay, but comes back to the government via the back-door). Continuing the same trend of the last 5-7 years it won’t be long until they hold ALL outstanding debt! So regardless of Yellen, Kuroda or Draghi’s rhetoric that rates are poised to go up and that they’ll reduce their balance sheets … it’s my belief that we can’t really raise interest rates for decades to come. Not only that, but I think QE is here to stay, it was not just an emergency & temporary measure to stem the crisis (as it was portrayed). It is the only way we can keep the very delicate world order in balance. Don’t expect governments, central banks or decision makers to admit this publicly. In fact they do the opposite, they keep pretending rate increases are just around the corner, that GDP will finally grow next year, that inflation will finally show signs of revival. Yet the exact opposite is invariably happening. And the market participants seem to know this all too well, but it’s in no one’s interest to stop the music going.

Zero interest rates forever?

So until we contain the expansion of debt, there’s no way central banks will allow interest rates to go up. They took centre stage and our economic future depends entirely on them. The sad reality is that hey cornered themselves and have no real alternative but to play the music and keep pretending they have things under control. We keep focused on the marlet’s short term drivers: whether Yellen pronounces the word “patient”, size of Draghi’s QE program, etc .. but it won’t matter much in the long term. The reality is that “full employment, escape velocity, and all these buzzy words are just cover-ups for a simple mathematical reality: interest rates have not been driven by inflation or employment but by debt to income levels. And until debt stops growing, we will see lower and lower interest rates as a consequence, to keep the nation’s total debt service to GDP ratio between 2% and 5% (the range it has been for several decades). This relationship also holds for households and corporations. It has to, it’s not even a choice. Or else we go belly-up!

The market now expects Yellen and the FED to raise rates later this year but I personally don’t think so – it will probably get pushed to 2016, then 2017, then 2018 and so on… It could perhaps reach 0.25% or 0.5% but not higher. We’ve accumulated so much debt that we simply can’t afford higher rates than that. Any small uptick of 0.25% will drive up our debt service costs to unsustainable levels.

Why not default?

Some may argue if the debts are unsustainable “why not just default on them on a large scale”? If we owe it to ourselves, why not simply erase part of it and re-set the system?

The problem is that the financial markets are so inter-connected that if we do that … we need to accept our parents will get a substantial haircut of their monthly pension (as most pension funds’ assets are invested in debt from companies, governments, households), much higher inflation (look at Argentina after they defaulted in 2001), civil unrest, chaos, riots, etc. That would result in a major global depression. The last one we had in the 1930 gave place to the emergence of Hitler, the militarisation of Asia/Japan, and ultimately WWII – with over 60 million people killed as a consequence (between 3-4% of the world population at the time)!! As tempting as it may sound to default on the debt, that is not the solution.

So the establishment chosen’s recipe has been 2 fold:

1) Increase Growth

2) Increase real but not reported inflation

Regarding growth, they’ve been trying to push structural reforms to boost growth in the long term. Very hard and slow process in a democracy. In the short term, they revised the GDP calculation methodology so that goodwill, sex and drugs are also included. I actually wonder why investors look at Debt / GDP ratio as a proxy for debt sustainability, when in reality this ratio is pretty meaningless. What does it actually mean? Some people may argue the 250% from Japan is more sustainable than the 45% in Argentina or 36% in Turkey. In my opinion the only ratio that matters is net debt service costs / tax revenues. Governments can “cook” the GDP numbers to make it look better but tax revenues is a much more difficult indicator to fudge.

Regarding inflation, they’ve been trying 2 things. First is to boost real inflation to inflate away the monstrous debt (if you inflate your income via inflation but debt remains the same, it’s much easier to pay it back). Hyperinflation would be the ideal scenario to clean up the accumulated debt, but this would entail terrible consequences (just ask the Germans in early 1900). The other has been tweaking the formula to calculate inflation so that the “official” number is lower than the actual one. Why would they do that? Because a large part of Government spending is linked to official reported inflation (pension increases, salary increases to public workers, etc), so governments have all the incentive to understate it. Does anyone really believe we’ve had 0-1% inflation since 2008? Is that what you experience when you buy a liter of milk, a grass-fed beef steak, a liter of gasoline, utility bills, clothes, your rent, tuition fees? Sure, computers, televisions, iPads, etc get cheaper thanks to technology but these are not primary needs. The things we really need to ensure survival (education, food, housing, transportation, energy, clothes) get much more expensive every year thanks to the largesse of central banks. Plus, if you understate inflation you real GDP numbers look much better.

So the Government’s strategy to boost “real” inflation and suppress “official” reported inflation is to grow revenues faster than they grow their costs. Pretty simple, yet they can’t openly say it.

Those that dare to confront the establishment and expose the problems we’re facing (Yanis Varoufakis, David Stockman, Chris Martenson, etc) are ridiculed by the mainstream media and soon dismissed. There’s tremendous political will to keep the status quo intact, which can delay but not prevent a catastrophe. Sometimes I wonder what Dijsselbloem, Merkel, Lagarde think when cameras are off, what goes through their minds and their inner thoughts… Don’t they see the obvious? What legacy do they want to leave behind? What mark do they want to leave on the world? We need real inspirational leaders that dare to take difficult long-term decisions, even if that entails short-medium term pain.

Will it work?

Sadly, I don’t think their strategies will work. Hyperinflation or default seem to be the only outcomes possible, both of which will lead to war in my opinion. Hyperinflation is unlikely (regardless of how much money CB print). Central banks & politicians are failing to see that expansion of money supply alone will not create the desired inflation.

Globalisation has been extremely deflationary (though very inflationary in poor countries). Low skilled jobs shifted to lower income countries, hence the marginal cost of labour in the rich world fell significantly (80 to 90%), leading to much lower production costs and higher margins (mostly to the benefit of shareholders but also to the consumers). This deflationary pressure offset the inflationary pressure from central bank induced inflation.

Additionally people need to perceive wealth as permanent, not temporary. And that’s a hard call considering the booms and busts we’ve had recently (tech bubble, subprime bubble). That makes people hoard cash, not spend, hence reducing the velocity of money – a necessary condition to kick-start inflation.

Furthermore, it’s the low & middle class that consume, not the rich (they invest instead). So the consequence is an ever increasing financial asset bubble which will keep the illusion that we’re doing ok. But when the bubble pops (and they always do, sooner or later), we will enter uncharted waters never navigated before. It’s hard to make any predictions, but if you look back at history … war seems to be where we are ultimately heading towards to. I’m not an historian but it’s a topic I’ve been paying more and more attention to. To predict the future we must understand the past. WWI and WWII didn’t occur because we were crazy back then, it occurred because history repeats itself over and over again.


Since Richard Nixon broke the gold standard in 1971 the world embarked on an enormous global debt expansion necessary to offset demand contraction, diminishing population growth and increasing social expenditure. This global debt expansion & money printing is not only generating diminishing marginal GDP growth but is also creating dangerous side effects on the economy – inflation on essential items such as food, housing, education.. and social and geo-political tensions due to increasing inequality. A rotten democratic political system (one that brings to surface corrupt/inexperienced politicians) forced central banks to print trillions of newly created money to keep our economic system from collapsing. But criticising central banks is not understanding the severity of the crisis that would occur without their actions – a multi-decade long major great depression, one which I’m not sure anyone alive today would live long enough to see the recovery. Unfortunately, their actions ended up aggravating the upcoming inevitable collapse, one that will lead to a redesign of the system to take into account the world is finite and can’t keep growing forever. Until the paradigm changes, interest rates across the developed world will hover around zero, growth will stall and inequality increase. The script seems to have been written and we’re simply tagging along, totally powerless to reverse course. It’s sad to see humanity go down this path.

Follow me on Twitter @ricardo_afonso_


Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s