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this is free to exchange the show of free markets and free thinking scholars meet I'm your host Ben Powell today we're going to take a look around the world at countries with different levels of economic freedom and different trajectories of where they've been headed recently on the first half of the show we'll look at some recent reformers Vietnam and Serbia and discuss how their reforms and improvements in economic freedom more generally impact investment opportunities then on the second half of the show we'll discuss Japan its long stagnation and what can be learned from their experience my first guest is dr. Marshall stalker dr. stalker is a portfolio manager vice president and global macro equity strategist at Eden Vance he's also the author of don't stand under a tree when it rains that's about his experience making direct investments in Egypt during the Arab Spring revolutions Marshall welcome to the show now good afternoon Venn it's good to see you I think last time we spoke it was in Moscow at the Hotel Metropole contemplating Russian economic history it was it's a bridge from there what were you doing in Russia then actually Marshall well do you do it it's what I do most days in my life is I try and get a better idea of where economic policy and economic freedom is heading in a country so we were there in Russia to see if there were perhaps still some free-market liberals that might have an opportunity to influence Vladimir Putin and the direction of economic policy in that country all this time I thought you were just meeting me there for a cocktail so why do you in working as a portfolio manager then look for opportunities like this at economic liberalization well what we know is that economic policy can have a pretty grand impact on the investment outcome I mean really simple economic policies like nationalization of industries which is the theft of a private property by the government can wipe out your investment returns but we also see the exact opposite in some countries countries that cut or eliminate the corporate income tax which causes companies to have more money to reinvest and grow their operation something we've just seen in the Republic of Georgia so okay the Republic of Georgia is one example what's what's actually your favorite example going on in the world right now like this well my favorite example is probably the free market communist state of Vietnam and an oxymoron in and of itself you know Vietnam in 1986 started under the doily policy of liberalization they realized that central planning didn't work and so they began to open up to private ownership of industries even more recently they've removed foreign ownership limits on companies meaning it used to be that foreigners couldn't own no more than 49 percent of any company in Vietnam that's now a hundred percent so you have foreigners rushing in to buy assets and that's pushing up the value and productivity of these assets as foreigners bring their experience in running businesses so you have a removal of foreign ownership restrictions the government is also privatizing a number of the industries that the formerly communist government was owning they just privatized the Saigon beer company for example so we see the size of government shrinking so tell me a little bit about the privatizations that are going on there how is this happening because well I remember back so that Viet Nam's are kind of more modern example of doing this but go back to the you know end of the Soviet Union and the crony capital I don't even know if it's capital or the crony acts between the government and privatization there is it working better in Vietnam it isn't it is indeed working better they're basically selling these assets to the highest bidder so you come in and it's very transparent the government then collects that money from selling the asset and uses it ideally for common good projects like public infrastructure which is much underdeveloped in the country what do you think the the biggest areas of reform left to do that would encourage more investment in Vietnam well one of the things we see is that the Vietnam a government and a number of other countries are signing on to a free trade agreement the one that our country just dropped out of the trans-pacific trade partnership and those countries in Asia are going to have lower trade tariff barriers and more efficient business as a result of that so we're seeing increased trade liberalization as an important component moving forward we're also seeing that the government needs to continue to shrink the size and scope of the government spending deficit and they've held themselves to kind of a firm debt to GDP cap and they're still a little bit of work to do there and how about their monetary system then is that stable if their debt to GDP cap is still a little sketchy well it's always an area of concern it's been stable because so many foreigners are rushing into the country right now to set up factories and invest in publicly traded stocks so there's a lot of foreign currency coming in and creating demand for the Vietnamese dong so it's been very stable versus the US dollar with that said every country goes through an investment cycle and there will be pressure on the dong at some point in the future but for the time being the currencies held up well while the State Bank of Vietnam the central centrally-planned bank there has improved the quality of its operations now let me ask you something that kind of broadens out a little bit more generally from from Vietnam because you said it was your favorite capitalist communist country and you were speaking about its economic system being largely capitalist but it's still the Communist Party yet has a monopoly in politics and this sounds similar to what's happened in China what's the relationship in terms of your investment strategy with regard to this of political freedoms worse economic freedoms right well what we see in the empirical literature I publish empirical empirical literature in a number of journals is that the political and civil freedoms really have no determinant role in investment outcome it's really just about economic policy business regulation trade policy the rule of law so the fact that we have a single party system in countries like Singapore or Vietnam it doesn't really seem to have impact on the outcome what the impact is is when a country liberalizes its economic system moving towards free markets where you see such a successful investment outcome and gains frankly in productivity and per-capita income so I'm not too concerned about a single party communist state in Vietnam that will come to an end at some point let me add one more thing and some of the work we're doing we're trying to better understand how these economic policies change in countries why some countries increase their economic freedom and one of the things we have found is in low freedom countries it does appear that democracies actually help facilitate liberalisation Xand I'm guessing that's because when you can vote you're all in this together when economic policy changes rather than having an autocrat tell you exactly what to do so that brings some level of skepticism as I think you should to China and Vietnam but nonetheless we're very encouraged by the liberalisation as we see in in Vietnam and also to some extent China well economists like Milton Friedman and Frederick Hayek I mean long ago talked about the relationship between political and economic freedoms and that they it's hard to have a lot of political freedom without economic freedom first do you find kind of liberalisation in economics leading the way to politics as well well you know I mean you're asking an empirical question and I don't have the empirical answer in front of me my kind of anecdotal experiences it's a rather complicated and unclear answer we have kind of hyper democracies like India where I'd suggest the democracy is actually a bit of a stumbling block to liberalize ations because that so many different constituencies no one can really agree to get things done whereas you can have single party systems like I said Vietnam where you do get liberalization is done they just have to realize what the correct economic system is and there's no kind of competing ideas when you have a single party system so it's a bit more complicated okay let's bring it back to then and the investment returns with regard to the changes in the economic policies the economic freedoms in the case of Serbia a place that not very long ago is very messed up but you're you're bullish on Serbian investments yes yes we we love Serbia this is a country the United States dropped the bomb on not too long ago back in the 90s and boy have they made an about-face the government was way too large they borrowed way too much money and so they had to figure out how to shrink the government fire and government employees is not fun and not popular they came out kind of like to do it it might be popular with you and me but it doesn't get you reelected so what they did is they came up with a very interesting way which is basically a solidarity tax on government employees all government employees had to pay a higher income tax rate meaning they all took exactly the same pay cut as a percentage of their income so no one was being favored or hurt and it was helping the government shrink the size of government expenditures and balance the budget the result is probably the least productive government employees now finding that they made ten or twenty percent less went on to private industry that labor pooled and becomes available perhaps for more productive efforts than the some of the more useless bureaucratic policies they had so that's the first thing is they really shrunk the government they like many other former communist states owned a lot of production capacity a lot of businesses they've been in the process of privatizing it even the Belgrade Airport was government owned and run up until this past January and they just privatized it introducing a French company to come in and and run it it has their privatization like Vietnam has been relatively transparent it has been transparent it's been a little frustratingly slow sometimes but it has been has been transparent and the effect of the government workers voluntarily leaving their jobs is all the sudden regulation collapsed and consumers getting you know hurt by this no no actually I think economic activity has improved because they're no longer dealing with some of this bureaucratic red tape all right let's for the last couple minutes then turn this around from places that you're bullish on to more bearish what what happened after your your cocktails with me at the Metropole and the rest of your visit in the Soviet Union did you become more bullish on them we are a Russian there so to speak the difficult thing with Russia is is you do have some market liberals in the country but it transitioning to a proper liberal economy is going to dislocate a number of power bases including that of latter Mir Putin's so what I've been unable to identify is a path to a leadership for people like Alexei Kudrin who is in the country who is a market liberal who is an advisor to Putin but he's just on the sidelines at the moment so we have this difficulty of competing interests between various rent seekers and those seeking market liberalism and at the moment the rent seekers are winning one of the one bit of evidence we have there is that the banking system is being nationalized as we speak the government has taken over several banks under the view that they're failing promising to sell them meanwhile they already own a very large percentage of the banking system and haven't sold anything that they've owned so pretty soon the Russian government is going to be the Russian banking system at the same time so we don't see privatizations in Russia we don't see the government shrinking at all we just don't see economic liberalisation happening that's not to say there won't be investment opportunities when the price of oil doubles in a oil exporter like Russia but when it comes to fundamental improvements in economic productivity it's not gonna happen in Russia so I didn't Russia in the Soviet Union where they threw out the Communists there's less economic liberalisation than in China or Vietnam where the communist government is still there you know that's it it's it's ironic but in many ways I think it's reasonably rational I think what a lot of these communists leadership SRI lies is that if they don't create some economic gains for their citizens they will be unceremoniously dismissed it happened when I was living in Egypt under a reasonably socialist government they were dismissed because their economic liberalisation weren't reaching everyone so I think folks like Xi Jinping in China realized they have to create economic gains so that they have credibility to stay in power and so that's what these Chinese Communists seem to be doing same in Vietnam well thank you for this discussion today Marshall we learned a lot absolutely you're quite welcome I look forward to our drinks in Moscow up next how did Japan's policymakers and central bankers turn its economic miracle into decades of stagnation and poor growth and what can the US policymakers learn from Japan's appearance we'll be right back this program is made possible in part by a grant from the Helen Jones foundation supporting education and the Fine Arts in keeping with the philosophy of Helen David Jones who devoted her later life to sharing her wealth as a patron of philanthropic causes the Helen Jones foundation free to exchange is a joint project of Texas Tech's free market Institute and Texas Tech public media more information is available at F M ITT u edu welcome back joining me now is dr. Gerald Orozco dr. O'Driscoll is a senior fellow at the Cato Institute previously he's been the vice president of the Federal Reserve Bank of Dallas and has taught economics at UC Santa Barbara Iowa State and New York University he's published widely on international monetary and financial issues as well as other topics Jerry welcome to free to exchange I'm happy to be here Ben so today let's talk about the kind of rise and then fall of Japan and what lessons it has first in the United States cuz a lot of people today don't think of even though it's one of the largest economies in the world they don't think of Japan as the powerhouse the way people used to today everyone's afraid of for better or worse China and no one's talking about Japan but it wasn't like that 30 years ago it rose out of the ashes of world war ii phoenix-like started to grow rapidly at first it produced cheap goods that gave Japan a bad brand name but then it started but kind of like China now kind of like China now and then it began producing better and better things it started bringing cars over here that gave us automakers have run for their money and it was an economic powerhouse it was the Rising Sun it was Japan Inc and that referred to the alliance between the government and the politicians and the bureaucrats to advance the interests of Japanese companies in the global economy one might say it was a model to put your pan first it had everybody scared yeah I mean if we were looking at business schools around the country in the 1980s this is the model they would have been talking about yep and there there's a 1993 movie of the Rising Sun that's about this and everybody was scared now what happened is the beginning around the 1985 there started to be this incredible asset boom in the Japanese economy and you had both a land asset bubble and an equity asset bubble and that broke in 1991 and now the narrative changed right and at that pyrrha member the land prices were something astronomical where it was you know things like you know whole manhattan blocks were reduced to they you know a couple square feet in tokyo in terms of equivalent the equivalent value yes and and so they thought Manhattan real estate was cheap and they bought iconic Manhattan buildings right and then since that time not only did their asset bubble pop but their economic performance never really recovered did it no it never really recovered an they engaged in very low interest rate policies beginning in the 90s and they engaged in massive government debt finance spending but let's dial it back really before I even get to how they tried to fix this problem the asset bubble didn't pop up did it how did how did we get an asset bubble in the first place well it started with fundamentals because of this fantastic economic story but the way the banking system is structured in Japan it had used a lot of land as collateral and then it it wrote up the value of its assets on its balance sheet so as this credit cycle fed higher prices for both land and equity shares this enabled the banks to lend more it became a self-fulfilling prophecy those never last but but they went from fundamentals to inflated asset bubbles in these two areas fuelled by bank credit yeah I was gonna what does the Bank of Japan then doing during this time in the late 80s the Bank of Japan is just letting it happen they're accommodating with more accommodating with monetary policy now remember it back then the Bank of Japan was an arm of the of the Ministry of Finance and this all seemed good to the politicians at the time so what's the turning point then why did their their bubble pop well the timing of popping of bowls is always difficult but eventually somebody said this can't go on and and and and the bank lending began to cut back and all you have to have is a slowing and then these bubbles pop there's no there's no formula for the magic moment when a bubble pops right otherwise would all be rich we'd all be rich yeah you tell me the magic moment I'm gonna get out of the stock market today before me too but in this case then the the magic moment kind of came not by an abrupt contraction of the money but just now that the bank's stopped expanding as much as much they began to become constrained so it pops and this is round 9191 what do they do after this well the Bank of Japan does respond to that to collapse an asset prices and it does begin not immediately but it eventually begins cutting interest rates to very low level and and the government steps up its spending so you have expansionary fiscal policy and expansionary monetary policy and everyone said why didn't you pan recover remember this is 1991 and they have not yet recovered this is yeah it even Honan right on that decade of the 1990s it it wasn't for lack of effort on either I mean there's traditional Keynesian stimulus package right it would be fiscal stimulus works right what was Japan doing with public works and construction and stuff like that built spending like mad at least the government-sponsored part of it and Bank of Japan became very accommodative they put in an early version of what we now call quantitative easing ultra-low interest rates easy money easy central bank money and the problem is that by itself that can't cure structural problems and their structural problem were unsustainable government debt and a really regulated economy so how big is their government debt now because that's another popular topic here in the united arab emirate debt is a percent of GDP that would be impossible in any other country it's over 200 percent the reason is twofold the government owes more money than twice the annual output of the economy yes the reason it still works in Japan is first of all it's almost all domestically owned there's no problem of international creditors to speak of and secondly they have this u.s. huge postal savings system which holds a lot of the of the government government debt and it's a it's like a separate banking system a little bit like our SNL industry and in that postal saving system that is the government directing where savings goes structurally in the economy then well it's mostly to finance government day okay so then we exit the nineties they've kind of given up on the fiscal stimulus because I've got them into so much debt what have they been left trying to do after that well what the pre-election of President Abe he came in and he saw there were three problems there was a monetary problem a fiscal problem and a regulatory problem and he immediately pressured the Bank of Japan by replacing the then government was a new one to expand monetary policy even more in other words see the Bank of Japan had been expansion airy but not sufficiently so in his view because and they still had deflation and secondly he promised fiscal reform but it mostly it was more fiscal spending but the third thing deregulation has proved to be very difficult why is it proven so difficult because when you do deregulate an economy you will start by taking something away from people taking away a privilege taking away an exclusive in the market to let in more competition think of it as in the United States you want to deregulate urban transportations so you let in uber oh no no now you're hurting the taxicab monopoly right so the story of Japan after you get through that initial call and lost decade of the 90s it hasn't been clapped it just hasn't been recovering really and staggered his stagnating you know everything you've said sounds eerily familiar here in the United States post 2000 through after Great Recession what's what's in common what's in common especially is the monetary policy colleague and Tom Cargill and I have written a paper on the Federal Reserve in the shadow of the Bank of Japan very low interest rates very expansionary monetary policy expansionary by look at the balance sheet of the central bank the Fed exactly mimicked what the Bank of Japan tried to do for beginning in the 90s we kind of had bubbles in two markets to simultaneous first we had that high tech bubble and then we had the real estate bubble yeah the high tech bubble didn't turn out to be very deleterious because it was elected he financed but when you have a land bubble it's financed by debt and do you have a lot of leveraging and you have to deleverage there's a world of pain and suffering comes in in what built up to the two thousand six seven eight right turn around with housing of Christ so if we have this kind of commonality of easy monetary policy and bubble what's the commonality on the flip side of how the US government dealt with this compared to Japan well the commonality is we also engaged in very expansion Airy fiscal policy which is put us at risk for some kind of long-term fiscal crisis and we didn't deregulate the economy in fact under President Obama at the federal level and was also going on at the state level there's been a lot of reregulate now I'm just to make this very current what Trump is trying to do is at least on the regulatory side unravel it I'm Ryan and we've seen a little bit of better growth finally the last oh I think the growth up till now has mainly been due to the deregulation he really is doing a lot of it he really has instituted a regulatory rule by which every new regulation has to be paid for by two D regulations so let's roll back a couple administration's actually for this narrative to to think about cuz when I think back to Great Depression a lot of people talked about it was laissez-faire Hoover and the the New Deal came in with FDR well we had Bush before Obama the recession policies weren't all Obama where bush doing something different than Obama or they you know two peas in a pod well I would say that Bush was a compared to Obama but really the bush policy set the stage for the Obama policies Bush had the bank bailout also Hoover was not a laissez-faire president and he put in a lot of spending after the beginning of the Great Depression and and the FDR administration acknowledged that basically he put them on the path for the New Deal yeah I agree completely that's a Hoover myth but I just wanted to write a look at this one Bush but Bush was no less a fair president here's a here's how I compare Bush and Obama Bush talked to pro-business line but put in a lot of business regulations Obama talked in any business line and put in a lot of business regulations alright so in our last just few seconds here then of coming out of this if we look at Japan and want to take a lesson away for the United States and other countries what should we be doing different most important we've got to put our fiscal house in order at some point and we have to have a lot of deregulation in the economy I think so too thank you for joining me today I appreciate it happy to be on we talked a lot about economic freedom on episodes of these shows but rarely does it actually translate into investment R advice today's show is a little bit different we learned how stock market returns are associated with improvements in economic freedom and looked at some surprising places around the world Vietnam and Serbia that are liberalizing and others like Moscow that aren't and how this impacts investment opportunity there then on the second half of the show we heard about how a capitalistic country Japan turned its economic crisis in the early 90s into decades of stagnation and recession and unfortunately how us in our recent crisis followed a lot of the same policies thankfully it seems we've eased off of those in the United States ended them to a smaller scale in Japan anyway and we seem to be turning the corner it was a great episode thanks for watching we'll see you next time you