Jeremy Grantham: "We Have Been Conned"

The lessons of Jeremy Grantham's recent interview with Charlie Rose seem to be becoming increasingly prescient as the stock market surges to new highs amid a crumbling macro (and micro) economy. "Bernanke is whipping the economic donkey that can only grow at 1-2% as if it was a race horse growing above 3%," and unfortunately he will keep doing it "until the donkey is dead." As Grantham says, it is a "very dangerous situation to have the most powerful man in the world," doing this as simply put, the Fed, "does not have the tools to generate employment." But while Grantham's clarity on Bernanke's actions are unquestionable in their endgame, his views (below) on Keynes, debt, and wealth transfer are even more concerning. "We had this amazing experiment... but we have been conned into believing by the financial world that debt is everything."

JEREMY GRANTHAM: Let me tell you something about debt. In 1982, if you added all the debt up it was 1.25 times the size of the GDP. And then, and it had been fairly flat for a long time, drifting slowly up. And then it kinked 45 degrees and it goes shooting up steadily without too much volatility. Just goes straight up.

CHARLIE ROSE: When was that?

JEREMY GRANTHAM: `82, 1982 -- and it goes steadily upwards to 3.5 times. So we had this amazing –

CHARLIE ROSE: That`s when Ronald Reagan was president, `82.

JEREMY GRANTHAM: Yes, right. And so we had this amazing experiment -- the biggest economy in the world almost tripling its ratio of debt over a block of time that really counts -- 30 years. And what happened in terms of the growth rate of the system, it slowed way down. Now there are other reasons I grant you that. But there`s no room in that equation to believe that increasing debt has anything to do with long-term growth. Is there?

That you triple it, what more can you do, and the growth rate of our system slowed materially? It`s so contrary, isn`t it?

They are the facts. They are so contrary to the general belief. We have been conned into believing by the financial world that debt is everything. Let a bank go, oh my God it would be the end of the world.

CHARLIE ROSE: Would Keynes have agreed with you about debt?

JEREMY GRANTHAM: I don`t know. I really don`t know. It`s such a different world now. The levels of debt are so much higher. He would probably have some ingenuous new theory.

CHARLIE ROSE: OK but I mean most people believe that we do have, I mean they look at the percentage of GDP to debt or debt to GDP.

JEREMY GRANTHAM: I can prove that debt does not generate long-term growth. I have given you the numbers.

CHARLIE ROSE: It does not prevent.

JEREMY GRANTHAM: It doesn`t cause long-term growth it doesn`t create it. Debt, we triple the debt and GDP growth rate went down. There is no evidence that increasing debt increases GDP. And yet that mandate has been given to Bernanke who thinks apparently that it does.

By keeping interest rates low, you`re transferring money away from retirees who spend every penny and are really hurting. And by the way, there`s far more of them every year now than there ever was when economic theories were being panned out. You take money from them, and who are the beneficiaries -- the guys who run the hedge funds and the banking system in general and speculators and corporations theoretically can use it to build. But they`re building less now than practically in history. There is no major league capital spending boom going on.

JEREMY GRANTHAM: We`ve gotten into a bit of a rat hole and we should be careful getting out of it. But it is not the overwhelming thing that will dominate our future. What it does is it distracts us from the real world.

Debt is an accounting world. It`s paper. The real world is the quantity and quality of your people, and the quantity and quality of your capital spending. Are you building new machines? Are you being inventive? Are you training your people? Is your high school system delivering the same education that it used to relative to the South Koreans, relative to the Norwegians? No it`s not. We should worry more about the real world and less about the paper world.

And somehow we`re in this death grip that only paper things matter.   And so there is much too little attention spent on education, training, capital spending, finding a way to beef it up. And also I would rather stimulate the economy directly through government spending than I would like to play games with the monetary system and games with the interest rate inflicting great wounds on retirees and so on and transferring wealth to people who won`t spend it
 
We’re transferring wealth from the poor to the rich by keeping interest rates low. I`m not even sure the economy gains at all by a low-interest rate. And furthermore no one is established convincingly that it is a good idea. It`s a tradition that is a good idea. That`s not the same.

We’ve had lots of traditions like the market would look after itself. People wouldn`t be crooks because economic theory assumes that they`re not. But they often were crooks, and greedy and short-term oriented and willing to dance until the music stopped. Although Soros said the music had actually stopped long before.