Capitalisn’t: Can the Dollar Be Dethroned?

Kenneth Rogoff: The thing we really care about over the long run is having the dollar be like English, that everybody uses it. That’s what brings our interest rates down on a long-term basis.

Bethany: I’m Bethany McLean.

Phil Donahue: Did you ever have a moment of doubt about capitalism and whether greed’s a good idea?

Luigi: And I’m Luigi Zingales.

Bernie Sanders: We have socialism for the very rich, rugged individualism for the poor.

Bethany: And this is Capitalisn’t, a podcast about what is working in capitalism.

Milton Friedman: First of all, tell me, is there some society you know that doesn’t run on greed?

Luigi: And, most importantly, what isn’t.

Warren Buffett: We ought to do better by the people that get left behind. I don’t think we should kill the capitalist system in the process.

Bethany: Way back in the 1960s, a French finance minister called the position that the dollar occupied in the global financial system “America’s exorbitant privilege.”

Luigi: Then there is the paraphrase of Churchill: “Indeed, it has been said that the dollar is the worst form of reserve currency, except for all those other forms that have been tried from time to time.”

Bethany: That always makes me laugh. I mangle the Churchill quote, or rather, I plagiarize it and change it in so many contexts.

OK, I will admit it, Luigi, in the past, when I’ve seen headlines about a strong dollar or a weak dollar, I mostly tune out—unless I’m about to travel to Europe and buy some shoes, of course.

Let me start with a question for you, Luigi. Why does the strength or weakness of the dollar matter? What does that quote about exorbitant privilege mean?

Luigi: I think that you are mixing two related ideas. One is whether the dollar is strong in terms of the exchange rate vis-à-vis other currencies. The Argentinian peso is relatively overvalued in this moment, but nobody would think about investing or using it as a reserve currency, ever.

You look at the exchange rate, and you compare the exchange rate with what you can buy in that particular country. For example, the magazine The Economist shows how much a Big Mac costs in different countries. If your currency is relatively appreciated, it’s pretty cheap to buy McDonald’s in another country. Vice versa, if your currency is depreciated, then when you go to another country, you spend a fortune to buy a Big Mac.

Bethany: I like the shoe index more than a Big Mac index, but that’s OK. We can keep going.

Luigi: I suspected that was the case, but anyway, you get the point.

A different thing is to what extent people want to use the dollar to, number one, write contracts in dollars; number two, invest in dollars; and number three, pay each other in dollars. This is the use of the currency as a medium of exchange, as a unit of account, and as a reserve of value.

Basically, the dollar has a very large market share of all three components around the world. It is a big advantage that the United States has. This big advantage is twofold. Number one, you can pay for your imports with printed money. Most other countries, in order to import a good, need to export a good and get some currency to pay for the good in foreign currency. The United States can buy foreign shoes just by printing pieces of paper that are dollars, which are very cheap to print. That’s one benefit.

The second benefit, which is connected but even more important, is that people feel safe investing in the US dollar and feel particularly safe when things really, really go badly.

The 2008 financial crisis actually originated in the United States. You would think that this is the last country in the world where you want to have your money invested. But people rushed to the dollar as a safe currency in that moment.

As a result of this unique quality, the US government and US households and firms can issue dollars and pay less than they would otherwise if they were located in the UK or in Europe. That really is an exorbitant privilege because you can save a lot on your debt.

Bethany: That makes sense. The influential economist Ken Rogoff has argued that we pay one-half to one percent lower in interest because of the dollar’s position. I think what you’re saying is that the strength of the dollar isn’t just this abstract financial-markets thing that only currency traders care about. It’s a real-world thing, one that affects the amount households pay in interest on, say, credit-card debt or mortgage debt.

But it’s also this abstract thing in that it serves as an unofficial barometer of US power, in a way. It allows all these advantages that are more abstract than the level of interest you pay but are connected to that and are really important in their own way.

How did the dollar get that role in the first place? It’s not like the world voted for the dollar to have exorbitant privilege—or did it?

Luigi: You know this little thing called World War II?

Bethany: Yeah.

Luigi: There is a fascinating episode of Planet Money about what happened in Bretton Woods. As the war was ending, the Allies met in this little town in New Hampshire called Bretton Woods. They were trying to figure out how they would organize the world moving forward. There was major tension between the UK representative, none other than John Maynard Keynes, and the US representative, Harry Dexter White.

What the Planet Money episode suggests is that surprisingly enough, Harry Dexter White outmaneuvered Keynes. Keynes was trying to save the role that the pound had in the international market. Harry Dexter White said, “No, no, let’s talk generically about a currency and then organize everything as a generic currency without specifying what currency it is.” Then at the last minute, in a tricky moment, he replaced this generic currency with the US dollar. The US dollar all of a sudden had the entire role.

By the way, it’s not related, but it’s too hard to resist: did you know that Harry Dexter White then was accused—and apparently accused rightly—of being a spy for the Soviets?

Bethany: No.

Luigi: Yeah.

Bethany: But then how could that be true? If you were a spy for the Soviets, why would he play this role in making the dollar so important? Wouldn’t that be exactly what the Soviets didn’t want, given the exorbitant privilege we’ve just been discussing?

Luigi: I don’t know. Maybe they weren’t particularly focused on that. But apparently, he did help the Soviets, especially provoking Japan to attack us so that they would distract Japan from attacking the Soviet Union. After the collapse of the Soviet Union, a lot of the archives came out and revealed that he had this crazy role.

Bethany: That is fascinating. We could do a whole episode about this. A spy and an economist have a negotiation about what currency will come out on top, and the spy wins, or something like that.

Anyway, the dollar has had lots of challenges over the decade. The Soviet ruble, the Japanese yen, the euro all had these moments where they looked like potential alternatives. But as Rogoff explains in his new book about the dollar, each one faltered. The Soviet Union collapsed, Japan stagnated, and the euro has struggled without full political union. He seems to be a little skeptical about the possibility that the renminbi will now replace the dollar. What do you think, and what do you think of his argument?

Luigi: What does “replace” mean? Does replace mean substituting completely over the entire world? That’s unlikely anytime soon. But on the margin, eroding the sphere of influence of the dollar and the role of the dollar? Absolutely.

In particular, what’s happening is a greater influence of the renminbi in Africa. China is investing a lot of money in Africa. It is importing a lot of raw materials from Africa. It is exporting a lot of products to Africa, and it is offering some form of digital renminbi to all the African nations. The possibility that they will start to write contracts in renminbi and trade among themselves in renminbi is pretty serious. I think that will definitely erode a big chunk of the dollar’s dominance.

Bethany: Yeah, I think one of the really interesting things about Rogoff’s book is that the dollar’s dominance is not etched in stone. He warns we might be squandering that exorbitant privilege.

Now, the dollar is under pressure from multiple directions: rising US debt, increased use of economic sanctions, growing political dysfunction, these alternative financial systems emerging around the world.

This is why Ken Rogoff’s new book, Our Dollar, Your Problem, is so important and timely right now.

Rogoff is one of the most influential economists alive today. He’s a Harvard professor, a former IMF chief economist, and coauthor of the seminal book with Carmen Reinhart, This Time is Different: Eight Centuries of Financial Folly.

The title, by the way, is meant to be ironic because during every financial bubble, a narrative emerges to explain why lofty valuations are justified, and this time, there won’t be a crash. Then, of course, the crash comes. Anyway, Rogoff is a perfect guest for our rather cynical and skeptical and, hopefully, ironic show.

Before we get started on the serious questions, we wanted to start with a slightly less-serious question for you, Ken. You talk in this book a lot about your experience playing chess. Can you tell us how you think chess has impacted your way of seeing the world?

Kenneth Rogoff: First of all, for me, it’s not a less serious question. I take chess very seriously.

Bethany: Point taken.

Kenneth Rogoff: There are so many ways that it’s influenced how I think about things. For example, I led a somewhat more bohemian life being a chess player. I actually earned quite decent money as a teenager doing that. You meet different kinds of people, and you certainly realize that there’s an underground economy beyond just drugs, which I didn’t do, but many people pick up on. There are a lot of cash transactions and things going on. It informed me in that way.

Luigi: Ken, let me start with a more boring question. I would like you to explain to our listeners why the dollar’s dominance is so important economically for the well-being of the United States. Very often, this is not understood broadly. How much money is this worth to you and me and Bethany?

Kenneth Rogoff: I’m an economist, Luigi, and you know I’d say we don’t know exactly what the number is. But estimates are that our interest rates are half a percent to a percent lower than they would be otherwise—not just on the government, on us. On Luigi, Bethany, and Ken. If there’s a big pool of demand for our debt, it makes interest rates lower. That’s the most obvious thing.

There are really a lot of other things that are important. When we have a crisis—the pandemic, the financial crisis—and we need to try to borrow a lot to fight the crisis, to increase government spending, to make transfers, whatever it is, to bail out the financial system, whatever we’re doing, we can go big in a way that’s difficult for anybody else.

Now, anybody can go big. The question is, how do the markets react?

With the dollar, until now—and we’ll discuss that—the last few times, we’ve been able to borrow a lot without seemingly damaging our borrowing capacity. You will notice that next time, when we have a big crisis, if our exorbitant privilege, if the dollar being the reserve currency, if the dollar being on top, has become less. I think it is headed in a downward direction. We may feel some pushback. Our government may be more reluctant.

Then a third way, which I think is also very important, is we are able to use that to put ourselves at the heart, at the pulse, of the global financial system. It’s not just that everybody uses the dollar. It’s that we control the way the rules of the game are made, which partly has to do with our military. We can come to that. But it also has to do with the dominance of the dollar. Why is that important?

Well, we live in an information world where everyone’s trying to have information: spying, marketing, you name it. That’s one area where we just dominate. We see so much. When we want to use it against you by putting on sanctions, we’re able to do that. I think we have sanctions on some 20-odd countries at the moment. We have used it in lieu of military intervention. I’m not saying it works, but don’t think it doesn’t matter. All of these things are incredible advantages to having the dollar not just be on top but be so far on top.

Bethany: There’s a relationship I don’t entirely understand. There are two concepts here, I think. One is a strong dollar versus a weak dollar, and the other is the dollar being the reserve currency.

Can you have one without the other? In other words, can you have a dollar that is much weaker than it is today vis-à-vis other countries and still have it be the reserve currency, or does the loss of A inevitably cause the loss of B?

Kenneth Rogoff: Well, I’m so glad you brought that up. They’re vaguely related. But the thing we really care about over the long run is having the dollar be like English, that everybody uses it. That’s what brings our interest rates down on a long-term basis. Over the cycle, sometimes the dollar’s high. It’s very high right now. It’s been coming down, but it’s very high. But it’s been very low, and we’ve still been on top.

It’s not even clear whether you want the dollar to be high or low, by the way. We as individuals might benefit in one way or another. If the dollar’s low, that’s really good if you’re selling stuff abroad or if you run a restaurant that gets a lot of foreign tourists.

On the other hand, if the dollar’s high, that’s fantastic for you if you’re planning a visit to Japan right now. The yen, their currency, is really weak. But it’s a separate thing, and I do think they’re often confused. In fact, I think the president confuses them often.

Luigi: I love the analogy that you use in the book between the language and the currency for many reasons. One is, of course, that both have this element of network externalities. The second is that languages have many uses, as money and currencies have many uses. We know that for a long time in Europe, people were speaking a language to each other but then using a different language to write about science. They were using Latin and maybe a different language to write about poetry.

In the same way, of course, money is a medium of exchange but also a unit of account. It’s a store of value. The competition can take place in different segments of the use of money. It doesn’t necessarily need to be the same for all three.

The dominance of the dollar, at the moment, is on all three dimensions. But technology can break this link. In the past, for example, this link was very much driven by our limited ability to do calculations in our heads. Today, when you travel throughout Europe, you can pay with a credit card, and you don’t even know whether they charge you in dollars or in euros.

To what extent does the introduction of technology change the nature of competition among currencies? And to what extent can it maybe create a segmentation in which one currency is used as a medium of exchange, but another is used as a store of value?

Kenneth Rogoff: Well, you’re asking a deep question, and I don’t even know where to begin. But the first thing to say is that, in some respects, it’s natural to have one currency. There are 150-plus currencies, and most people have no idea what the currencies in smaller countries are worth.

If you’re an exporter from an Asian country to an African country, you probably want to get paid in dollars. You don’t want to learn about their local currency. You don’t want to have to study what their central bank is doing. There are advantages to having a common currency.

I see a lot of analytical models that say it has to be one because, of course, the network effects are the biggest when you have just one. But it doesn’t have to be just one. We have a few different credit cards: MasterCard, Visa, American Express, for example. We don’t have 150 of them. They don’t really work that well. In other words, we do, but most of them are very small. So, there are these network effects.

You’re right that technology is potentially affecting the use of the dollar. It could still be the unit of account, but you’re going through different rails, different veins, of the global financial system in order to do things.

In fact, that’s really what the Europeans and the Chinese want to break free from. They don’t want us to see what they’re doing. If they had a way to transact labeled in dollars—I’m going to charge you in dollars, you’re going to pay me in dollars—but the United States would never see it, that would be really good for them. That would accomplish a lot of what they want to do.

Technology potentially offers that. But I just want to say that it’s not so easy. It’s not so trivial. What happens is occasionally there’s a crisis, and when there’s a crisis, sometimes you need somebody who can just print dollars to step in and solve things.

Part of the problem today is that it’s such a big world. First of all, China has a lot of incentives to break off its dollar peg. China made this development choice that they would tie their currency to the dollar. That was the best thing that ever happened to the dollar. As everybody knows, China boomed; Asia boomed. Asia today is half the dollar bloc by many measures.

China has, I think we understand, very good reasons to try to break away. They’ve actually been doing it for about a decade. But now that they’ve seen the sanctions on Russia and other countries, they’re going to do less.

It’s efficient for them to keep using the dollar, if that was the only thing they cared about. If we agreed on everything, if they didn’t worry about the United States bossing them around on issues they care about, they would keep it.

But even Europe doesn’t like how much power the dollar has. We imposed sanctions on Iran just over a decade ago, and I don’t know what’s around the corner these days. Europe disagreed. Europe had good reasons, they felt, for disagreeing. And we were able to bully Europe into doing what we wanted because we said, “If you don’t, we’re going to cut off your banks.” And so, there are geopolitical reasons to have more spheres of influence, more currencies, than we have now.

Bethany: A multiple-choice question: if you had to choose what power is in today’s world, is it the country that makes things? Is it the country that has the reserve currency? Or is it the country with the biggest military?

Kenneth Rogoff: Oh, boy, that’s a tough question. I think if you have the biggest military, you use it to seize countries that make things. Being the country that makes things is less and less important.

Let’s face it. We live in an era where robotics is coming, where we can substitute for that. You certainly want to be a big financial power. That’s not going away anytime soon. That’s an incredible advantage. I wish the US administration saw it that way. I think when we don’t have it, we’ll feel it.

But I also think being a military power is, unfortunately, very important. We live in a very unstable world. A very important point: I don’t think you can be the top dog or whatever you want to call it in currency if you’re not a powerful military. Europe has suffered from that. And when the euro area remilitarizes, which it’s being forced to do, it will be become a more powerful currency.

Luigi: First of all, it needs to remilitarize. Second, it needs to coordinate its militaries, which is a bit more complicated.

Kenneth Rogoff: Yes, it may not happen. If New York state had its own military, and California had its own military and its own missile-defense system, it’s not going to be very efficient. Unfortunately, that’s not a bad description of Europe.

Luigi: How badly can the United States do and still retain its dominance? In a world that is probably tripolar, the competition may be more intense. At some point, especially the Asian countries will say, “Why do we need to use a currency that is not reliable?”

If we really expect the fiscal problems to come home to roost, maybe with high inflation, et cetera, they might opt out. What are the limits of our fiscal profligacy that would be supported by the system?

Kenneth Rogoff: I think everybody’s looking at exactly what you said, Luigi. OK, we were going into this tripolar system, but the dollar was still way on top. Do we trust the United States? Do we trust that this money is not going to get inflated down and devalued?

This is exactly what happened just over 50 years ago, when we went off our Bretton Woods gold standard. Individuals couldn’t trade dollars for gold, but countries could. We went off that, and that deanchored the system.

Is something coming again? I do believe that our fiscal deficits are vulnerable to having higher interest rates, and we have higher interest rates. Then if we lose some of our ability to place cash abroad, to get everybody else to hold our money, that’s going to exacerbate the problem. Our interest rates will go up even more.

I don’t know how that will end, but I think it will end in a burst of inflation. That won’t actually be the end, but that’ll be a wake-up call. If you’re managing China’s central reserves, or you’re managing even the UK’s central reserves, it was very painful in 1933 when Roosevelt went off the gold standard. It was very painful in 1971, when Nixon went off it. It’s going to be painful again.

I think one of the things that’s causing everyone to move a little faster towards a more tripolar system, as you say, is exactly this fiscal policy. It’s interrelated with central-bank independence. If we thought the central bank would just stick to keeping inflation low, come hell or high water, we’d have a little more confidence. But I think that, too, has been undermined—not just by Trump, by both sides. The progressives hate central-bank independence. I think everybody’s hoping they have enough time to diversify more, but they might or might not.

Bethany: You’ve been critical of this administration and the risks it’s courting. If I were to try to break these things into different categories, it seems that perhaps the Trump administration’s general threats and desire for a weaker dollar is not the same thing as the administration perhaps weakening the use of the dollar as a reserve currency.

If we take the first as maybe, OK, we can have a debate about whether a weaker dollar might be good for some US businesses or not, put that in one category. Then let’s look at this other category of moving away from the US dollar as a reserve currency. That maybe would seem like there’s some blame due to both parties for fiscal irresponsibility and lack of central-bank independence. Then perhaps layer on a little bit more directed at the Trump administration for lack of US trustworthiness, for lack of a better way to put it. Would you think of it in the same schematic? Is there something that I’m missing?

Kenneth Rogoff: My book was actually written without knowing who would win the election. I felt we’re in this decline with fiscal problems, central-bank independence problems, even without the many flourishes that Trump has brought.

But I think the Trump administration is actually very clear-eyed that you want everyone to use the dollar. You just want its value to come down. In fact, at times, when the BRIC countries, Brazil, Russia, South Africa, China, India, are talking about doing more trade with the renminbi or their own currency, he has said: “You do that, I’m going to punish you. I don’t want that to happen.”

I think that was actually counterproductive, but he was correctly understanding that that was not what he meant by having a weaker dollar. What he meant was having the value lower. He’s lucky in that the dollar’s really high right now in its purchasing power. The exchange rates are extremely difficult to predict. But actually, when the dollar’s this far out of line, he’s probably going to get a weaker dollar even if he shuts up and doesn’t do anything. That’s probably a wish he’ll get. I think it would have happened under Harris.

We had the dollar this high in 2002, 1985. I’m talking about the purchasing power parity. A simple way to look at it is how much a Big Mac costs in different countries or Starbucks or some common currency. But you can look at much more sophisticated baskets of goods. If your listeners have any friends who are visiting from abroad, I guarantee you they’re going to think it’s really expensive here. If they’re old enough, they’ll remember times—maybe just five or 10 years ago for some countries—when they thought it was really cheap here.

We’re definitely at a point in the cycle where the dollar’s high, but I don’t know how effectively Trump and his people can push it down. But I think they’re looking to have both, and they could. You can have both. The dollar’s been on top, and we’ve had, as we discussed, periods where it’s been high and periods where it’s been low.

Luigi: One of Trump’s policies is to push very hard in favor of cryptos and stablecoins. To the extent that stablecoins become an alternative medium of exchange for international transactions, they can provide two problems for the dominance of the dollar. Number one, they erode at least part of the seigniorage because it would be appropriated by the owners of the stablecoins. They’d be very happy.

Second, there’s also an informational element, which is very important. As you said at the beginning, in an information economy, it’s very valuable to know what people do. Today, we know through the Fed because all international transactions have to clear through the Fed. The more they clear through stablecoins, they have a different system, so we lose that advantage. Should you tell Trump to say, “Look, this is the wrong strategy if you want to maintain the dominance of the dollar”?

Kenneth Rogoff: I actually think just a couple of years ago, Trump was making all sorts of statements: “I don’t like crypto. It undermines the dollar.” I don’t know his exact words, but you can find that. “This is a bad idea.” It’s amazing what some campaign donations will do to change somebody’s mind.

I think he’s making a huge mistake that’ll hurt not just everybody but him, eventually, and what he’s doing. I think everyone knows he holds a lot of Bitcoin now. There are no words for it. Corrupt beyond imagination that he’s holding over a billion dollars in Bitcoin. It’s become one of his son’s big businesses, and he’s the regulator.

He has a big influence over what it’s worth. Why? The president doesn’t control Bitcoin, but what he does control is the infrastructure around Bitcoin. It’s a banking system. If you were to ask your class, Luigi, how many people hold Bitcoin, you’ll probably find a lot raise their hands. That’s what I find. But they’re not doing it on chain, which is the cryptographic trades. That takes some sophistication.

I’m not saying our students don’t have a lot of sophistication. But they’re doing it through one of these super-convenient, bank-type entities. I have a paper on this, and there are other people who do. We estimate 95 percent, 98 percent, of all the transactions are done through a banking system. That’s an overlay over crypto. That you can regulate. It’s just a banking system.

We don’t. Not really, not much. That’s changing, but we haven’t changed it yet. That explodes the value of Bitcoin because it’s exactly like our English example. It gives it network effects where everybody can hold it; everybody can trade it. That is driving up the price.

Why is it a problem? Well, you listed some reasons, and I’m going to come to them. What you said is really important. But one reason, right now, is it’s a banking system that’s not regulated like our regular banking system. There was a major bill passed not long ago in the Senate that would be a step towards this.

But if you’re not regulating it, we know what’s going to happen. There’s going to be a banking crisis. We had that with FTX. That was a big exchange. Samuel Bankman-Fried just a couple of years ago. It’s going to happen again. But it’s going to be much worse when it happens again, because now pension funds are buying it. It’s being spread much more into the system. So, that’s a problem.

You also list a very good problem, which is that if we’re not auditing them, we’re not requiring the same things we require from banks. I’m not arguing it should be exactly parallel. We’re losing this information. Who’s getting it? I don’t want to advertise names. There are some that are really regulated here and pretty compliant with requests from the United States.

I don’t think Tether is. That’s the biggest stablecoin. I have on fairly good information that the Russians and the Chinese do a lot of their trade to avoid our financial sanctions through Tether and other things like that. We don’t want that. There’s a lot of power being lost.

Lastly, going back to the banking crisis, if these things aren’t backed, if they’re not regulated, they’re going to blow up. Even a very well-run one will run into trouble when there’s a crisis.

We can have stablecoins, I want to be clear, but they need to be regulated like banks. They ultimately need to be in dollars or in euros. If they’re in dollars, they need to be backed by the Fed. If they’re in euros, they need to be backed by the ECB or something equivalent. It’s a very interesting transition. But we’re in this Wild West, evidently for at least three and a half more years, where the space is exploding, but it’s not yet really being regulated.

Bethany: We’ve had prominent people on this podcast, including Eugene Fama, who have made predictions about Bitcoin, cryptocurrency, going to zero. You have your own analysis of what might make cryptocurrency go away. Do you care to share it with our listeners?

Kenneth Rogoff: Interesting. I forgot that Gene said that because I’ve listed Paul Krugman, Warren Buffett, Jamie Dimon, Nouriel Roubini as people who said it would go to zero, and I’ll now add Gene Fama.

I think that’s wrong. I’m going to go back to my chess days of having lived life and seen the underground economy. The underground economy is mostly tax evasion, of course. It’s human trafficking and drugs and illicit military sales and everything, but it’s mostly avoiding taxes.

There are different estimates. Again, this is another thing I have a paper on, and I talk about it in the book. The World Bank has estimates. I would say 20 percent of the global economy is a low-side estimate.

Bethany, you read my first book, which was very engaged with this issue. Crypto is moving in here. We’re already not controlling it. This is a market where everybody’s trying to avoid being caught. And so, that’s a big market. It ain’t going to zero, as long as that market’s there. Of course, if you’re in the mainstream, it can be worth much more.

By the way, I believe that even today, by far, the main use not of stablecoins but other kinds of cryptocurrencies is the global underground economy. That’s the main use.

The idea that you can have legitimate banks . . . JP Morgan, Morgan Stanley, Goldman, I’m not trying to pick on anyone—everybody’s issuing various kinds of cryptocurrency assets. It’s like issuing ETFs, exchange-traded funds, linked to blood diamonds. Why would you want to allow that? So, no, it is not going to zero.

But the question is, its current value is based on its moving into the legal economy. I didn’t really get to the final point about Trump. It’s going to blow up. We’re going to have a crypto-based financial crisis within his term. I don’t know what he’s going to do. He’ll react. I think he’ll rein everything in. I don’t know what it’ll do to his own Bitcoin holdings. But it’s like a banking crisis, and we’re going to have it if we don’t regulate it.

Bethany: Now that’s a prediction.

Kenneth Rogoff: I’m making a solid prediction.

Luigi: I don’t know whether you have read The Changing World Order by Ray Dalio. But he has this view that big powers overextend themselves militarily. Then, when they overextend, they become fiscally unsustainable, and then they collapse. Your book reminds me in its negative predictions as somewhat similar to that. What is your reaction to that?

Kenneth Rogoff: As you must know, Ray Dalio is a great investor, one of the great hedge funds. There are not a lot of references in his book besides to his own work, including what other historians say. His most recent book has many echoes of 2009, This Time is Different, but no citations.

Certainly, Toynbee and other people talked about cycles and stuff. You can make mistakes, whether you’re the top power or whether you’re Russia or whether you’re China, in overinvesting in the military. You can be a minor player and overinvest in the military. I don’t think the US has done that.

I don’t think that’s the source of our fiscal problems. The source of our fiscal problems is we have this belief that we just don’t ever have to lower our debt. Our debt relative to income was 30 percent in 1980 for the United States, 60 percent in 2005, 90 percent in 2009, 120 percent today.

We’ve gone from the system where we would fight a war, have a financial crisis, and we would sort of take whatever steps to let it come down. Now, we just say, “Well, we don’t care.”

This belief that the interest rates would always be very, very low and they were never going to rise . . . Oops. They’ve come up the last few years. Now, I won’t say that the real interest rate is necessarily higher than the growth rate. They’re close to each other. But you can’t just wait it out if you want debt to go away.

You do have this concern that if you go from plateau to plateau, I think we’ll have another crisis. I don’t know what it’ll be over the next five or 10 years. Cyber crisis, pandemic, Martian invasion—I have no idea. But we’ll have things. Or war, a real war. And I promise you, when we have it, we will try to bring our debt to another plateau and then another plateau.

I think we’ve reached a situation where markets may push back. I don’t argue necessarily in favor of austerity. But, goodness, Biden ran deficits over 6 percent of GDP. I don’t want to get up onto some political thing, but it’s uninspiring how much infrastructure we actually built or how much we actually did.

Trump, as we speak, we don’t yet know where he’s going. I’m betting we get an even bigger deficit to GDP. We’re just really taking our chances on what comes next.

Bethany: Why are you so sure that it has changed now and that we’ve reached a point where it has changed? A tiny bit of context: I think I was on Meet the Press back in 2009. Maybe it was right after the global financial crisis. I, too, argued, this is over. Our debt burden now matters. We have to start to care. Obviously, I’m just a journalist; I’m not an economist. But there have been people warning about this for 15 years, and it hasn’t mattered. Maybe, arguably, it does now.

This is a two-part question. Why are you sure that now, it does matter again? And what’s the historical explanation for why obvious things that common sense would argue matter, they don’t matter and they don’t matter and they don’t matter? Why can we ignore common sense for such a long period of time, and then all of a sudden, it catches up with us? Is there a chess analogy?

Kenneth Rogoff: Well, sort of. There’s this famous saying, I think coming from Simon, but I quote Rudi Dornbusch, my thesis advisor, that crises take much longer to unfold than you think they would. But then they happen much faster than you think they can when you see something unsustainable.

What’s gone on here is that we had real interest rates, inflation-adjusted interest rates, reach a phenomenal peak in the early 1980s because the central banks were having to crack down on inflation, but nobody believed them. So, they kept having to raise interest rates more and more. Volcker raised interest rates to almost 20 percent at some point.

Of course, the interest rates were very high, so it allowed Larry Summers in his Brookings paper from six years ago to draw this graph of interest rates coming down. But if you look at a longer period—I have an American Economic Review paper on this published last August—there are giant fluctuations in these things. Sometimes it’s low. It was really low in the Great Depression, until it wasn’t. There are times when it’s high. The thing I really object to is this confidence that interest rates will stay low. I think we shouldn’t have that confidence.

That was a surprise to markets, to everybody, that interest rates stayed as low as they did. I think if the pandemic hadn’t happened, we would have experienced this rise in interest rates sooner. I don’t know that it’s going to last, but I actually think the odds of interest rates going up are as good as they’re going down.

I’m not talking about what the Federal Reserve does. The market sets these longer-tenure rates. I think the odds of it going up are as much as going down. What I would say is, sure, artificial intelligence may rescue us. I think it’s more likely to ruin us than rescue us, but it may rescue us. There may be some relatively minor fix, like just running a 2 percent deficit instead of a 7 percent deficit, that works for a long time.

But where I see things is we have an American voter who’s just not willing to take that. I just came from New York City, where this very charismatic progressive won the Democratic primary sounding like we can just spend more on everything. We can have free this, free that, the sort of Bernie Sanders . . . Oh, it’s wonderful. He’s very charismatic. But that’s a very strong wing of the Democratic Party.

The Republican Party thinks anytime you cut taxes, you should just look the other way no matter what debt happens. And it wins! It wins for the Democrats; it wins for the Republicans.

I don’t see having a change until we have a crisis. I’m happy to be proven wrong, but I really object to people who are absolutely sure everything’s fine. They’re really selling you some medicine that you don’t want to take.

Luigi: If there is time for one last question, since you’re in the business of dire predictions, what is your prediction about Japan? Japan has been running in conditions worse than the United States for quite some time now. While things are deteriorating, it’s still standing.

Kenneth Rogoff: Well, I object a little bit to say I’m in the business of dire predictions. If you read my writings and my book, it’s very measured.

Oh, I think Japan’s in trouble, actually, if you’re asking. It’s very interesting. So many people point to Japan and say they proved debt doesn’t matter. They have twice as much as the United States. Have you looked at Japan’s growth performance over the last 30 years, 35 years? They’ve gone from the top of the table—depending on what statistic you pick, whether it was richer than the United States per capita or not—to the bottom.

By a lot of measures, I think Japan’s below Italy now. I’m not meaning to cast aspersions on Italy, but Italy’s poorer than Mississippi by some measures—not culturally, necessarily, but in terms of its GDP per capita. Of course, it’s China; it’s their demographics. But who are you kidding? It’s their policy of stuffing debt into the financial system, the pension funds, the insurance companies.

Suddenly, they’re having to raise interest rates. They haven’t had to do it for 20 years, and there’s all this debt sitting on the books of everything. The central bank, I forgot to mention, holds practically 100 percent of GDP in debt. The insurance companies, pension funds, the banks . . . Interest rates are coming up. Everybody’s actuarially bankrupt. They have real problems in Japan of dealing with this. That’s why the yen is so absurdly low at the moment. They’re afraid to raise interest rates. Believe me, the Bank of Japan knows this.

If you’re asking what’s a big country to watch near term, it would be how Japan handles this. They’ve done amazing in that they’ve maintained social cohesion more than we do in the United States. But if we are being presented with Japan as an example of, don’t worry about our debt, that’s what we can do, which so many people do—I won’t name names, but you can look it up. It’s just stupid. I mean, we don’t want to go there. We want to do better than that.

Bethany: Luigi, my first question for you is, is there anything you wanted to get to that we didn’t get to? We both had so many questions for him. I found myself being completely fascinated by the dollar drama, much to my surprise. But you had said going in that you had a ton of questions for him, too. Is there anything we didn’t get to?

Luigi: Yeah, the book is very interesting, but it’s mostly focusing, in my view, on the store of value of the dollar: to what extent people feel confident in investing in the dollar long term and to what extent the fiscal instability inside the United States might jeopardize this. I think that is a very important point that I want to go back to because he said something very, very important and ominous, but it’s not the entire picture.

I wish we had discussed more the different functions of the currencies and in what dimensions the dollar could be displaced. If you want a sexier component, at least in the last couple of years, what will our international payment system look like in the near future? This is really challenged by technology that is changing the game in a major way.

I always tell my students, when I was a kid in the ’70s in Italy, in order to make a phone call to the United States, you had to spend an arm and a leg, and sometimes even ask in advance for the time to make a call. It was a complicated ordeal. Sending money was roughly the same.

Today, you can call the United States instantaneously 24/7, no questions asked, at zero cost. But sending money back and forth is, by and large, at the same level that it was in the 1970s. This is completely crazy. It’s mostly due to two things. Number one is that you want to be secure when you send money, but as a result of that, there is an oligopoly that is well established. And there is the role of the dollar, which is well established, that creates slowdowns in every innovation.

We discussed cryptos a lot, but I think one place where cryptos are making an inroad is in international transfers. Stablecoins are becoming a very effective way to transfer money across the world 24/7, completely bypassing the banking system.

Bethany: Do you think cryptocurrency has a use outside of the underground economy? I thought he said in his book—he did not say it on the podcast—that if the underground economy goes away, the crypto industry vanishes. Or if the underground economy got regulated more closely, the crypto industry would vanish. But I think you’re arguing that you don’t believe that.

Luigi: I think that it depends on what you mean with crypto. If you’re simply saying Bitcoin, I believe what he says, but it’s not just Bitcoin. Now, it’s also true that if the US were making what is called the central-bank digital currency available to retail consumers everywhere in the world, then crypto would disappear. But I don’t see the Fed doing that anytime soon.

I think there is this interesting challenge, and this interesting challenge is fueled, in particular, by geopolitical considerations. As Ken said, if I am China, or if I am Iran, or if I’m a lot of other countries, I don’t want the United States to see what I’m buying or what I’m selling.

In fact, what I learned, which is quite interesting, is that international transactions go through a system of messages called SWIFT. Remember when there were the sanctions against Russia? One of the sanctions is excluding Russia from the SWIFT system. Now, SWIFT is based in Brussels, and it used to be the case that the European transactions that were operating in Brussels were kind of backed up in New York. Now, they’re backed up in Zurich. Why? Because the Europeans don’t want the Americans to see their transactions.

Bethany: Wow.

Luigi: This is a topic that generally people are not very familiar with, and they don’t discuss it a lot, but there is an enormous amount of value in controlling the system. That’s, to some extent, another exorbitant power that the United States has. Of course, a lot of countries are not very happy with it.

Bethany: I think you’ve just coined a new phrase. It’s not just exorbitant privilege; it’s exorbitant power. You had mentioned that he said something that you thought was ominous. What did he say that you found ominous?

Luigi: I think that he is very concerned about the long-term stability of not only the United States but also Japan. We didn’t enter into the details, but Europe probably is not that far off. The risk of financial instability at that level is going to be very, very important. It’s interesting to study history because every 50 years or so, you have a major disruption that creates a situation that’s completely unexpected, and then the world adapts to it. In ’71, if you remember—from history books, of course, because you were not born in ’71—

Bethany: I was born in ’71, barely.

Luigi: —Nixon basically suspended the convertibility of the dollar into gold and created an enormous instability throughout the world. Then, later, countries adapted, and things were fine. But in the 1970s, there was instability in great part because there wasn’t this reliable anchor represented by the dollar and gold. And so, having a world where the dollar is very unstable and unreliable will create enormous disruptions to global trade and also enormous disruptions to the Western economies.

What he’s saying is very scary, especially in light of the fact that we’re discussing this as . . . The Big Beautiful Bill is a gigantic, awful hole. Regardless of whether you like what they cut and what they spend, blah, blah, blah, the overall bill is increasing the deficit at a time when we have no excuse to do so. Generally, you like to increase the deficit in a time of war, a time of recession, and a time where there is justification. If you do it when everything is going well, imagine when things don’t go well?

Bethany: Yeah, those are really interesting and scary questions. I remember a religion professor of mine wrote a book equating going off the gold standard to the death of God. I was thinking as you were talking that moving away from a dollar-denominated world could be God’s second death, actually. Anyway, not to get too philosophical about this.

For me, the biggest takeaway from this episode—and tell me if this sounds right; it might sound shockingly basic to you—is that I don’t think I had ever really heard somebody explain as clearly as he did, and as you did earlier, that a strong dollar and a weak dollar, and the dollar as the reserve currency, are actually two different things.

I thought that something President Trump is doing is very deliberate, which is potentially trying to weaken the dollar and make it not be as strong exchange-rate wise. But what he is doing unintentionally could be weakening the dollar as a reserve currency. That is very unintentional and something he doesn’t want, and we don’t want.

I thought that it is actually worth just being very clear and very explicit about that. I think even in the mainstream media discourse, those two concepts get mixed a lot. I fear that they are mixed in the presidential discourse as well, that it’s not clear which one he is aiming for.

Luigi: Yeah. To complicate things further, there is, of course, a connection between the two. If the dollar is a reserve currency, the demand for dollar-denominated assets is stronger, and the dollar is stronger than it would be otherwise.

If tomorrow the world decided to adopt the euro as a reserve currency, the dollar would depreciate massively. It would have some positive consequences if you want to export but negative consequences for anybody who wants to import or wants to buy shoes abroad.

Bethany: It all comes back to shoes. The whole world always does. Anyway, anything else you think we should get to?

Luigi: I personally was interested in the issue of Japan because I never understood why Japan is still standing. It keeps accumulating enormous amounts of debt, but it has been fairly stable, with no problems until very recently.

Now, recently, there was some massive devaluation of the yen, so much so that everybody now goes on vacation to Japan, to the point we were making before. But you didn’t have any financial crisis or any fiscal crisis. For a country that doesn’t really grow, the fact that it has a level of debt that is so disproportionate vis-à-vis the GDP, it is kind of a miracle that it’s still standing.

Bethany: Yeah, although I thought his point was almost the opposite of that—and your way of phrasing it is really interesting—it is still standing but at an absolutely enormous cost. I thought that was also really chilling. For people who say that debt doesn’t matter, you can point to Japan and say that it’s still standing. But at what cost? It’s probably still standing, in large part, because of the enormous social cohesion there, which we don’t have in this country. I was thinking about that as not a hopeful message but actually part of a very chilling message.

Luigi: Do you remember, until a few years ago, there were people—Stephanie Kelton, to begin with—that were pushing modern monetary theory? She had a book called The Deficit Myth.

Bethany: Do you remember, that was our first episode together?

Luigi: I didn’t remember it was the first episode together.

Bethany: At least it was one of the first. Very fitting that here we are.

Luigi: Nobody talks about that anymore.

Bethany: I know.