Transcription
Good afternoon. Too busy. So much for my lousy Chinese.
Uh, I'd like to talk about the world economy at the crossroads and the end of the American-led global order today. But maybe it's not the end of the American-led global order. It's the beginning of American global disorder because so many things are happening, starting in the United States. Some are good, some are horrible, and some are still uncertain.
So, what I'd like to talk about today is basically three things, and maybe four if we have time, that are affecting the global economy, uh, in a very big way.
One is the, oops, one of them is already discussed: AI investment. This is the 500-pound gorilla in the room. It is so big, in fact, that other factors, some people will say, other factors don't matter all that much. The war in Iran, big deal. Uh, protectionism is a sideshow. This AI revolution is the thing. And I'm sure you have heard many of this, uh, over all, all over the place.
And of course, Taiwan is a huge beneficiary of this AI revolution because to do this AI, you need, they need all the chips from Taiwan that Taiwan can produce, and some from South Korea, some from Japan, but Taiwan is, this is where the action is. So it's great that so many companies, so-called hyperscalers in the United States, are spending $500 billion, $700 billion to put together these data centers, and they need all the equipment that we can produce because so many of them are only produced here in Taiwan. So, yes, this AI investment boom is a great thing.
I also believe that AI is one of the biggest, uh, transformations of human society in the sense that when the industrial revolution happened with science and technology, all of those were basically helping human beings below the neck, right? Uh, with machines, we can make things faster, more precise, stronger, but not above the neck. But with AI, they're now helping us above the neck. We can get all this information that humans have collected over the centuries very quickly, and they even let you, uh, help you analyze these numbers to make sense out of those numbers. So, in that sense, this is a huge revolution. We should never underestimate the impact this is going to have going forward. And it's so glad, glad that Taiwan is part of it, a very important part of it, because that's, uh, benefiting this economy, uh, massively.
But even though I am no expert on AI, there's one thing that bothers me, and that is that so many companies that are building up these data centers, they are not making money on AI yet. Some are, of course, making money, but nothing to justify the kind of money that they're spending on their data centers and investments. Some of them are even thinking of putting together nuclear power plants next to the AI, uh, data centers so that those data centers will have enough electricity. But that's why the amounts are so large, and that's why, in some sense, the US economy is doing okay. The US economy in many other parts are not doing all that great, but because of this, the US economy is doing great, uh, is, uh, held up. But for that to continue, these guys have to make money, and plenty of money, to justify the expenses they are putting in.
And I, that gets me worried, get me to worry a little bit about what happened 25 years ago with the IT boom. Remember the IT boom 25 years ago? Wow. The share prices went sky-high. Everybody was so excited that all the computers can talk to each other, and now we can communicate so easily all around the world. Of course, that IT boom transformed the entire way we do business, the way we communicate all around the world. That was great. But those guys were not making all that much money at that time. And of course, we experienced this huge drop in share prices. Was it, uh, Amazon prices down 90% or something at that time? So, we might be in for that kind of adjustment going forward.
Adjustments will not slow down the AI revolution. The adjustment of, uh, share prices in the year 2000 did not slow down the IT revolution. So, chips are still needed, data centers are still needed, but there might be adjustments going forward, and we should be, uh, uh, not expose ourselves too much, not put all the eggs into one basket, because when the adjustments come, it could be quite painful at that time.
Now, as I said earlier, I am not an expert on AI. So, I'd like to talk about the other two, which also affect this part of the world very strongly. And one is the energy crisis that started with, uh, United States attacking Iran. And the other one is protectionism, which is kind of quiet at the moment, but I don't think this is going to go away. And both of these affect this part of the world more than any other parts of the world because Asia is dependent so much on, uh, energy and oil supply, supplies from the Strait of Hormuz. And in terms of protectionism, Asia is very much affected because Asia benefited most from the free trade system that Americans put together after 1948, the so-called GATT system. If there were no free trade, the way that Americans put together back in 1948, none of us would be here today talking about all these things because economies would have been, would have grown much, much slower.
So, although, so I'd like to talk about these two. Then the first one is the energy crisis. How did we get into this mess? Well, in order to understand what's happening in the Middle East, we have to go back to 2015. So, what happened in 2015? 2015, President Obama of the United States, together with the United Nations, entire Security Council, uh, members, plus the EU, plus Germany, all together negotiated with Iran to come up with, uh, denuclearization of Iranian armed forces. So, this agreement was put together in, uh, 2015. It took 20 months, 20 months of very careful negotiations, and based on that agreement, Iran actually moved quite a bit of their, uh, enriched uranium out of the country, as was specified in the, uh, agreement. And so, Iran was moving to enter the global community of countries. Uh, other countries are beginning to remove sanctions against Iran. So, we were moving forward.
And then on 2018, Donald Trump comes along, and he basically abrogates the entire, uh, arrangement, pulls the United States away from, uh, Iran, and put away from this agreement, and put the sanctions back on. Now, put yourself in the position of Iranians, right? You agree to this agreement. You already shipped the IRA, uh, uranium out of the country to Russia, in this case, and then the Americans abrogate everything and then put the sanctions back on. Well, then perhaps, you know, Russians have to return the enriched uraniums back to Iran. But of course, that did not happen. So, a lot of people in Iran were very, very upset that the United States became, uh, such an unreliable partner. And starting from there, everything started going in the wrong direction.
And so, if I may compare where we are today with where President Obama was in 2015, you see a very big difference. In 2015, when, uh, President Obama was putting together this agreement, all US allies were with the, with the United States, and the United Nations was very much with the United States because it was the entire Security Council, uh, negotiating with Iran. Iranians, even China and Russia were on board. It's hard to imagine, but that was actually true. And that's why Russia was, uh, able to accept these, uh, Iranians from Iran.
Uh, Iranian moderates outnumber the hardliners. Uh, what do I mean by that? For Iran to accept this 2015 agreement, they had to pass the parliament. And at the parliament, of course, there were hardliners and the moderates. Moderates wanted an agreement so that Iran can enter the global community of countries. Hardliners said, "No, these guys cannot be trusted. We, the Revolutionary Guards, have to go our own way, and we have to have nuclear, uh, weapons, especially since Israel has nuclear weapons as well." So, there was a big debate for like three months in Iran, but at the end, when the vote was taken, it was 161 to 59. So, the moderates won, hardliners lost. So, there were more moderates than hardliners at that time. And at that time, the United States was considered a very reliable partner for negotiation. The only group that was not part of this arrangement was Israel. It's a very bottom one. Mr. Netanyahu and Israel, Israelis were not very happy that they should have been more strict on Iran.
Well, today, Donald Trump is facing the situation where, as you can see, US allies are not on board. Every one of the US allies wanted to keep a distance on this war with Iran. The United Nations, of course, not involved. China and Russia, of course, not involved. And Iranian moderates outnumber hardliners? Not a chance. Because those 161 votes that moderates were able to get, they looked very stupid after Trump pulled the United States out of the agreement. And hardliners at the time said, "I told you so. These Americans cannot be trusted." So, now the entire Iran is run by hardliners, no moderates. This is Trump's own making.
And, [clears throat] is the United States considered credible? Of course, it's the same Trump who pulled Iran, the United States, out of that agreement. And when the United States started the war, February 28th this year, nothing that happens on February 28th is good, but that one was pretty bad. Um, the United States and Iran were still negotiating. So, whether, while they're still negotiating, Americans and Israelis start attacking Iran. How do you feel if you're Iranian at that time? You're in the middle of negotiation. They drop bombs and start killing you. The same thing happened, actually, with the Japanese attack on Pearl Harbor. Right at that time, the US and Japan were still negotiating. While negotiating, Japan attacked Pearl Harbor. That really galvanized, uh, Americans who were against the war at that time into fighting the Japanese. The, uh, slogan at that time was "Remember Pearl Harbor." That's the slogan. Same thing is happening in Iran. We were supposed to be negotiating, and then you drop bombs on us. How, how can you trust, uh, even for one minute? That's basically the situation now.
And so, what happened is that we are in a very difficult situation compared to 2015. But the, this last entry, Israel's Netanyahu, for him, the whole purpose of having this war is to make sure that the new agreement with Iran is much better than the old one. So, what Trump is stuck in a situation, Trump is situ, uh, stuck in a situation where Israel is very much run by hardliners, and Netanyahu is a hardliner, a very extreme hardliner. Iran is run by the hardliners, and then one in the middle, Trump is not trusted by the Iranians at all. So, this is where we started. And I think Trump's thinking was that, yeah, the situation is pretty difficult, but if I can beat the Iranian military all at once in this massive military attack on the first few days, Iranians will give up. And if Iranians give up, then everything will be fine. That was his thinking. And it's Netanyahu for Israel who told the Iranians that if you push them hard enough, hit them hard enough, they will give up. So, Trump basically bet on that assessment, military assessment, provided probably by Israel, because I know that the US military was not so sure. US military actually warned, uh, President Trump that once Iran, Iran survives the initial attack and starts controlling the Strait of Hormuz, we're going to be in big trouble. And I actually visited Washington, April of this year, to talk with these people, and they were all saying, "Yes, we warned the president that once the war starts and Iran takes over the, uh, Strait of Hormuz, we're going to be in a very bad situation." Of all the people I talked to, none of them was optimistic. All of them are saying this will end badly.
So, basically, Trump listened to the, uh, Netanyahu's military assessment, bet on the military assessment, but it didn't work. It failed. The Iranian government is still there, run by hardliners. So, now Trump is really stuck, right? You bet on this strategy, it actually failed. But then from here is another story, in that Trump did something only Donald Trump could do. He decided to make a 180-degree turn. He started bashing Netanyahu and he started using words like, "You're crazy." You know, that's not the kind of word that a president of the United States is supposed to use to your allies, but he, uh, publicly said all of that things, basically to remove the United States away from Israel. And, [clears throat] he basically agreed to everything the hardliners were demanding in Iran, because he realized that there are only hardliners left in Iran. So, if you want to end the war, you have to negotiate with the hardliners, because there are no more moderates left. So, basically, Trump made this huge, uh, turn, accepted all the conditions that hardliners put on board, then bashed Iran, bashed Israel, and ended this agreement by the Avian summit in France for G7 countries. Why? Because if you get this agreement in time for the Avian summit and submit it to all the other G7 members, G7 members of course say, "Oh, this is great. The war is coming to an end." Then he has credibility again by saying, "Look, I ended the war. G7 countries are all with us, with me. So, Israel, you shut up." That's basically how he handled the situation. Ordinary persons probably have never come to this kind of, uh, actions, because, you know, you are losing faith, you're surrendering to the Iranians, and you're going against Israeli interests. But to Mr. Trump, getting the deal done is everything.
And we should have known that this is likely to happen because, remember February of last year, when, uh, Trump was meeting Zelensky in the White House, Trump actually said, "We, I can end this war in one day." And most people were not, you know, wondering what, what that meant. Well, on the February meeting with Zelensky, we realized what he meant when he said he can end the war in one day. It literally meant Ukraine to surrender. If Ukraine surrenders, the war will end in one day. But at that time, Ukrainians were very upset. Europeans are very against it. So, that did not happen. But this time, it was the turn of the United States. The United States is the person to make that decision. And Trump made that decision. Okay, let's accept all the demands from the hardliners and end this conflict. So, that's where we are now. Only Trump could have come to this kind of conclusion.
What's going to happen next? Well, [clears throat] from this point onwards until the end of the 60-day period, the 60-day period, I am sure will be extended because, uh, coming up with this kind of nuclear agreement, you have to go through very little details one by one, and the last agreement, with everyone working so hard in good faith, still took 20 months. So, this one, I'm sure, will take much longer than 60 days, unless Trump says, "Okay, just do everything that Obama did, and we'll go with that."
But during this period, Trump will have to appear very strong against Iran and very strong against Israel. He has to appear strong against Iran to make sure that Iran will not keep on adding more conditions, knowing that Trump is in a very bad situation. So, in order to stop that from happening, he will have to appear very strong against Iran. And the most recent military action against Iran, uh, shows that yes, Trump made this big decision, but that was the bottom line. He will not move any further. So, that's action.
And then, uh, Trump will also have to come out very strong against Israel. And when JD Vance, the Vice President, said, "Two-thirds of Israeli budgets, defense budgets, are actually, uh, paid by American taxpayers." And I couldn't believe that he actually said that, but he said it to prove that who is the boss. "We are paying your defense. Two-thirds of your defense is paid by American taxpayers. So, I'm the boss. You, you listen." That's an amazing statement coming out of the US President because although most Americans knew that something like that was happening, no one actually ever came out and openly said, "Two-thirds is our, our payment." So, that's the way he's trying to contain the situation, and hopefully, we get to the end with something reasonable. I'm sure the deadline for the negotiation will be extended because, uh, even under the best of circumstances, these negotiations are very, very difficult. Unless they just copy the entire Obama agreement on top, uh, this is going to take longer. But the fact that Trump made this 180-degree change means that he will probably stick to it, and hopefully, we will get to the goal without too many difficulties in between. I'm sure there will be a lot of things, and Israelis and his boss in, uh, Lebanon, and all these problems are still very, uh, controversial. But I'm hoping that now that Trump made this, uh, big decision, very difficult decision, as he said when he was signing the agreement, "I hope it holds."
Then the next question is, how did we end up with someone like Trump who is reckless, crazy in so many different ways? He has legal problems, other problems everywhere. How did someone like that get elected, not just once, but twice in the United States, and even now he's enjoying quite a bit of power among certain parts of the US population? And here, I would say that the establishment in the United States, meaning Democrats and traditional Republicans, that Republicans before Trump came, that establishment really screwed up one thing, and that one thing is US trade deficit. As Mr. Singh mentioned earlier, this is a very, it's a huge mistake in that for the last 40 years, as you can see in this chart, the US kept on running massive trade deficits. Only the UK and the US were doing that. And if you run a deficit, each dollar of US deficit reduces US GDP by the same amount, right? So, it's reducing the US GDP, US growth rate, and so forth. And so, under ordinary, under ordinary circumstances, in any ordinary country, if you end up having a large deficit, the government will do everything to make sure the deficit will not grow. But the US didn't do that for such a long time. And what is even stranger is that people talk about budget deficit a lot in the United States, or in Japan, or not many other countries. The government is borrowing too much. This budget deficit is no good. But budget deficit is an income transfer within the country. So, from one pocket to another, right? That's the budget deficit. Trade deficit is a transfer of money out of the country. So, the country actually becomes poorer and poorer. But how many of you in the market today watch the US trade deficit every time they announce? They announce? Not very many. So, those of us in the market, as well as the media, academics, they all kind of ignore this big problem over these all 40 years. But the fact that they were losing income to foreigners means someone in the United States were hurt. And if you add how much money we lost, how much money the United States lost during this whole process, it comes out to be 100, uh, this number, 157% of GDP. That's a huge number. And in terms of today's dollars, that's $46 trillion. So, Americans lost income equivalent to $46 trillion because of the deficit. This is an updated chart from last year. So, you probably remember some of them yourself.
And this $46 trillion was not shared by Americans equally. Only people in manufacturing, farming, mining, they were the ones who were affected. Those people in the financial industries, like us, uh, academia, college professors, they were not affected. Those people in the service industries are not affected. Only the people in manufacturing, farming, mining were affected. So, that's basically what you would say, rural America was badly hit. Metropolitan America was doing okay. But these people who were losing jobs, losing income, neither Democrats nor Republicans did anything. Republicans were always for free trade. So, whatever the market decides, we don't, we're not going to touch. This is free trade. Democrats talked about championing the blue-collar workers, but they did nothing, absolutely nothing about the US dollar, which was very strong. And that's why the US was running such large budget, uh, trade deficits. And so, for the average people who are affected by this $46 trillion, whether you vote for Democrats, vote for Republicans, the result is the same. It's not going to help you anyway.
This is where Trump came in. Trump realized that there are millions and millions of people in this part of the world, in that part of the United States, that are very, very unhappy. And then he started talking about protectionism. "Let's, uh, help our industries. Let's help our workers." And suddenly, millions and millions of these blue-collar workers started supporting Trump. You know, when Trump, uh, this is 2015, when he started talking about entering the presidential race, you know, all of us basically laughed at him, said, "What is this crazy guy who doesn't know anything about government, who knows anything about national security, nothing about diplomacy, how can he run for the president of the United States?" But once he started talking about this protectionism, everyone, all these people started supporting Trump. That was a big surprise for Democrats, a shock for the Republicans. It's a shock for both Democrats and Republicans. Republicans were always for free trade. So, someone from your own party suddenly talking about protectionism is a no-no, unthinkable. But so many millions of workers started supporting, uh, Republicans because of Trump. So, it's a kind of a pleasant surprise for Democrats. They thought, "Those are your own supporters, but they all ran toward the, uh, Republican side because of Trump." So, remember Hillary Clinton made a huge U-turn last minute and dropped the TPP, Trans-Pacific Partnership, and started moving toward protectionism, but it was already too late. Trump got elected. That should have been a huge warning to all of us. Uh, but apparently, not too many people in the establishment heeded those warnings, in that, "If we don't do anything about this problem, we will actually lose free trade." And the way it happened was, uh, the reason the US got into this mess is because of the dollar.
This is what happened to the US dollar in real effective terms. And when you look at this thing, uh, if you look at the US trade deficit, you notice that until 1980, everything was kind of fine. Uh, the US was not running a large deficit. But starting 1980, suddenly the US started running a large deficit. And this may look like, in this chart, this may look like something very small, but actually, um, in real terms, it was a huge shock to the United States because industries after industries were shut down by, at that time, mostly Japanese and some Europeans. Look what happened to the dollar here. Once in 1980, there was a big regulatory change allowing countries from foreign countries to enter different countries' capital markets. So, before 1980, it was not possible for Japanese investors to buy US treasuries or US investors to buy Japanese equities. That was all prohibited all across the country. But in 1980, that was allowed. And when that was allowed, huge amounts of money started pouring into the United States. And in order to buy American stocks, US treasuries, you need dollars. So, they sold Japanese yen, they sold German mark to buy US dollars. And that's how, that's how you ended up with this massive appreciation of the dollar. At its height, it was 280 Japanese yen to $1. At 280 Japanese yen, no American companies could compete. It got so bad.
And I was at the foreign, foreign exchange desk of the Federal Reserve Bank of New York. That's when the US government does the foreign exchange intervention. And I, we were getting tons of complaints and phone calls from all around the United States telling us that, "How come you're not doing anything about this strong dollar? We are killed. We are going bankrupt. Do something." But at that time, we, President of the United States was Ronald Reagan. He did not want to intervene in any market. He was a free trader in the true sense of the word. So, he said, "Whatever the market decides, we respect it." So, even though those of us at the New York Fed kept calling the, uh, Treasury Department, foreign exchange intervention in the United States is not decided by the Federal Reserve. It's actually decided by the Treasury. We do the work, but they make the decision. So, we made lots of phone calls and said, "Hey, don't you think we should intervene?" But said, "No, no, no." So, that's how we ended up with a dollar exchange rate like this.
But finally, by September of 1985, the situation got so bad because everyone in the US wanted to go for protectionism because if you cannot do anything about the dollar, the only way to protect yourself is protectionism, raise tariffs. And it got so bad that Prime Minister of Japan, Mr. Nakasone, flew to Washington and told Reagan that, "If we don't push this dollar down by coordinated intervention, there will be no free trade left." And Reagan, such a strong supporter of, uh, free trade, finally decided, "Okay, let's intervene." And when they intervened, as you can see, the dollar came down very, very sharply, as you can see here. And with this fall, the protectionism was gone. I remember by 1987, no one in the United States was talking about protectionism because again, the dollar rate was down to 120, whereas before it was 280.
But unfortunately, that was the very last time the US did anything about the exchange rate. After that, as you can see, uh, dollar started strengthening again here and again more recently, but the US did absolutely nothing. Trade deficit got worse and worse and worse. So, [clears throat] until something is done to this problem, Donald Trump will remain effective, will remain influential. And this is something that we have to accept. And if you go by the traditional thinking that, uh, we cannot do anything about the dollar, and sorry, let me move this. If we accept this whole notion that the central bank cannot move the exchange rates anymore because the, you know, daily trading volume in the foreign exchange market is so big, there's only so much that government, uh, central bank can do. If you agree to that argument, and foreign exchange cannot be touched, then the only way to help these people who lost jobs because of the strong dollar is to put up higher tariffs. And that's basically what Trump is proposing, and that's why he gets, he still got so much support from these people, uh, who believe that, and they needed help.
Now, as I said last year, this whole notion that the dollar cannot be moved is wrong. It can be moved, and we proved that with the Plaza Accord of 1985. During the Plaza, and because I was there, I can remember, we had the same debate, daily trading volume is like this, central bank can only put so much money, there's no way we can move the exchange rate. But when we did it, the exchange rate actually did move, and everything was adjusted. Why? It's a very simple reason. Central banks are the only players in the foreign exchange market that doesn't have to make everyone else in the foreign exchange market, you people included, in the foreign exchange market to make money, right? But central bank doesn't have to worry about making money. So, when central banks, at that time G5, so five central banks are coming at you, and you are the one of those who have US strategy bonds or US equities in your portfolio, I know, [snorts] many Taiwanese investors have that. But if all these central banks start coming at you, what are you going to do? Of course, it's the private sector, and you have lots of money. So, you can fight the central banks and see who's, who's stronger. But you are not in the market to prove why, h, how strong you are against the central bank. You are in the market to make money. So, when the other side doesn't have to make money, but you have to make money, you're actually in a huge disadvantageous position. It's like walking in the wrong alley in New York City somewhere, and then you suddenly realize that you're surrounded with these bad kids who want some money from you right now. Maybe you kept your body strength up, and then your muscle, you have, you know, plenty of confidence in your muscles. Maybe you can beat these kids and then you can get away with it. But chances are high that if some really bad kids come at you, try to get money from you, but you have a job, you have a great job in Taiwan, you're managing billions of dollars every day, all this, you have a great family, social standing, you don't want to fight with these kids, right? Even if you win, you're not going to get much. If you lose, you lose too much. Whereas these kids have nothing to lose. So, chances are high that, okay, okay, I'll give you some money, take out the cash, give it to them, leave me alone. Have some fun with this money. That's what many people would do, maybe not most, but many people would do. And that's basically what happened in the foreign exchange market when the five central banks are coming at you, eventually became seven central banks, most investors start saying, "No, I don't want to pick this fight." But if you don't want to pick the fight, but you have still long dollars, what do you do? You have to square your positions to make sure that, you know, you don't get killed by the central bank. How do you square your positions when you're long dollars? You have to sell dollars. So, it's not the central bank selling dollars, but investors who want to square their positions also selling dollars, and exporters and importers, because the US is running such a huge trade deficit, were all also selling dollars. So, everyone was selling dollars, and that's how the US dollar fell so quickly from 280 all the way to 120.
So, it can be done. But when I was in Washington in April and trying to tell people in Washington that instead of going through the tariffs, we should go through the exchange rate, and the exchange rate can be moved. Guess what the reaction I got? I actually gave a big talk, seminar at the CSIS. CSIS is the Center for Strategic and, uh, International Studies. It's the biggest think tank on national security issues, diplomatic issues in Washington. And every time the United States government has to think about some new policies, they always go to CSIS. CSIS will collect experts from various universities, wherever, bring them together so that they can do the brainstorming sessions. So, when you go to CSIS, you see many meetings going on with those brainstormings, uh, on various issues. So, I was, uh, doing that on that day. I realized that most people in the United States, most people in Washington, has already forgotten about Plaza. That's 40 years ago. And I was about the youngest at the New York Fed at that time. That's why I still remember vividly. But I'm, you know, at the very low end. All the people who are making decisions, of course, all retired. And so, when I start talking about Plaza Accord, the way I just did to you, most people saying, "Oh, something like that actually happened." You know, that kind of reaction. And I have to explain, you know, that, you know, five central banks are coming at you, what were you going to do? And they were totally, I, it felt like I'm talking to someone from Mars or Jupiter somewhere, because they haven't heard this story for 40 years.
So, I have to tell you that even though foreign exchange adjustment is the right way to go to save the free trade, and that way you can actually, as I, me, sorry, you know, if you are successful with tariffs, and if, because of tariffs, all the industries return to the United States, but those industries are not going to be internationally competitive, right? They're protected. That's why they're back in the US. If the tariffs are removed, they all disappear also, because they are not internationally competitive. And having internationally competitive, having internationally uncompetitive industries is no way to make America great again. In order to make America great again, you have to have internationally competitive industries. America was great 40, 50 years ago because it had internationally competitive industries. So, even if Trump got all the tariffs in place, he's not going to achieve what he wanted to achieve, to achieve where he wanted to go. Exchange rate must adjust. But because so many people have forgotten that it can be adjusted, we are stuck in the situation, uh, we are in now. And so, for foreign exchange adjustments to actually take place, all these people will have to be taught again what the Plaza Accord was and how it worked. And that might take months, that might take years. So, in the meantime, Trump will be still talking about tariffs. And even though he was shot down by, uh, Supreme Court on two cases already, he will still try to come up with something to push tariffs. And that is not good for the global trade, for the global economy. [clears throat] Because tariffs reduce efficiency, uh, of the global economy by a very, uh, big margin compared to, uh, exchange rate adjustments. You know, after Plaza, a lot of people worried that the dollar would no longer become the international reserve currency. But even though the dollar fell nearly half, the position of the US dollar as international reserve currency was not affected at all. And the position of the United States as a leader of the free world, free trade, was not affected either. And so, but these things have to be taught again to the policymakers in Washington because they have all forgotten about it. And so, until Republicans, uh, traditional Republicans, until Democrats begin to realize that the right way to revive the American industries is not through tariffs, but through exchange rates, and that it can be done. Until that point is reached, I'm afraid we are going to be in this very, uh, unstable world, uh, uh, for the, for the time being.
Now that the, the, those two tariffs that, uh, Trump put in were already, uh, struck down by the Supreme Court, my guess is that Secretary Scott Besson will probably try to pressure Japanese, Chinese, possibly Taiwanese government to move the exchange rates under the table. That is to say, slowly kind of, "Can you push it higher? Can you push it higher?" That kind of thing. You already noticed that the Chinese are doing it. RMB is already much stronger than it used to be, something like 7%. China's trade surplus with the United States is half of what it used to be. It's down to half. So, China doesn't have to move the exchange rate anymore. Well, at least they can make that argument, but they're still ended up pushing the, uh, RMB higher. I think because the US is now trying to tell policymakers in China, Japan, places, if at all possible, please move the exchange rates higher. And Japan, as you know, intervened very heavily in the foreign exchange market in March, huge amounts. It did not last very long because the Bank of Japan is unfortunately very much behind the curve on inflation. But the fact that these things are happening means that on the surface, Trump will talk about tariffs. But under the table, Scott Besson, the US Treasury Secretary, will be probably pressuring various monetary authorities that if at all possible, push your currencies higher if you want to avoid further, uh, tariffs or other problems, uh, that you might encounter in the US market. So, that's my view on where we are on this tariff issues.
And lastly, I want to talk a little bit about something completely different, and that's US monetary policy. We are having, we just got a new Federal Reserve Chairman by the name of Kevin Walsh. And this chairman is very, very different from the previous three or four chairmen. He is still young, 58 or something, 56. He is very determined to change the way the Federal Reserve operates, and he has been pushing for his agenda for the last 20-some years. Basically, he wants to remove this massive amounts of reserves in the banking system that were put in place by Bernanke, Janet Yellen, and Jay Powell out of the system. He believes he and Bernanke were both students of Milton Friedman. And you know, Milton Friedman's a monetarist who said, "If you double the money supply, the prices will double," you know, that kind of thing. And both of them were together when the Lehman, Lehman Brothers collapsed, uh, 2008. And given how sharp and, uh, uh, Kevin Walsh is, Kevin Walsh was, uh, Ben Bernanke's right-hand person to handle this massive banking crisis that we encountered back in 2008. And at that time, as you can see on this chart, when Bernanke did this first quantitative easing here, now this chart, the red line is the monetary base. That's how much reserves the banks, central bank can, that's the amount of reserves the central bank added to the banking system. That's the red line, monetary base. The blue line is the, uh, money supply M2, money supply. How much money we get to spend. And the green line is, is this, uh, how much money banks lend to the private sector. And if you remember your economics, we were taught that these three lines are supposed to move together, right? If the central bank increases the monetary base by 10%, money supply, credit, all increasing by 10%. And that world did exist before 2008. So, as you see here, here three lines are moving together. Three lines moving together means central bank increased the monetary base, money supply increased, bank lending increased by about the same amount. So, that's why three lines are moving together, and that's the textbook world.
But on 2008, housing bubble collapsed, asset prices collapsed, but liabilities remain. And, [clears throat] all these people with, you know, liability is still up here, but asset prices down here, the balance sheets underwater, they all start paying down debt to to come out of this negative equity. And so, as you can see, the green line actually shrunk here. The green line is actually shrinking. Even though the Federal Reserve increased monetary base massively, under ordinary circumstances, if they increase monetary base like this, and the QE1, they doubled the monetary base, so prices should have gone double. But as you can see here, prices did not move at all. Uh, lending by the banks actually shrunk, and the US economy was suffering, suffering badly. The first QE, this very first part, this part was the right thing to do under the circumstances. It's a right thing to do in a sense that at that time, if you remember, all these American banks had huge quantities of, uh, subprime mortgages and, uh, CDOs built with these subprime mortgages, and they all basically lost value. So, if I were an American bank, I know I'm close to bankrupt, but I know you guys are all bankrupt, too, because they all have the same assets. And of course, Lehman Brothers actually collapsed. Uh, Merrill Lynch had to be rescued by Bank of America. Uh, Morgan Stanley had to be rescued by Tokyo Mitsubishi Bank. You know, there was a real mess at that time. And when something like that happens, the banks cannot trust each other anymore because you know the other side has a huge problem, because everybody's holding the same, same bad assets. So, they don't put money in the interbank market. And if they don't put money in the interbank market, the whole payment system collapses. So, at that time, central bank has to be the lender of last resort to keep this thing going. So, that was okay, and Kevin Walsh was working closely with Ben Bernanke. But then two years later, Ben Bernanke said, "Hey, let's do more." This one, QE2. By the time QE2 was put in place, this banking crisis was already over, it was contained. So, the second one, the QE2 was really to get the economy to move, not solve the banking, uh, financial crisis. And that's where Kevin Walsh said, "No, Bernanke, if you increase, uh, reserves like that, once the private sector finishes its balance sheet repair and comes back to borrow money again, banks have almost unlimited money to lend, and that will create massive inflation." So, "We can do quantitative easing during crisis like banking crisis, but not afterwards. We should take the money back." But instead of taking the money back, as you can see, Bernanke kept on increasing the money in the system, QE1, QE2, QE3. And, uh, Chairman Powell then massively increased it during the pandemic years. Kevin Walsh was very, very unhappy about that. Kevin Walsh understood balance sheet recession. One of his papers, if you look at it, the whole paper starts with my name at the very beginning. Economist Richard Koo says, "Lao." So, I know that he knows me. So, he understands balance sheet recession, uh, argument. So, during the balance sheet recession, he was kind of quiet, even though he did not agree with this action of this, uh, Federal Reserve under Bernanke, Janet Yellen, and, uh, Jay Powell. As long as no one's borrowing money, this does not cause any problems.
How about now? Now, this is the latest, uh, bank lending numbers from the United States, Japan, UK, and, uh, Europe. And you can see that, as you can see, this number, recently bank lending numbers are increasing quite rapidly. 7.6% growth. It used to be like two to three percent growth. It's two, two to three percent growth, you don't worry about inflation. But if bank lending is growing at 7, 8%, then you can have inflation. And Japan has the same problem, the UK has the same problem. Only Europe, bank lending is still very, very slow. But if the private sector is coming back to borrow money, and if the banks are stuck with this massive amounts of reserves, chances are high that we're going to hit inflation. And that's what Kevin Walsh wants to prevent. And so, unlike all the other Federal Reserve officials who said, "Ah, this inflation is not a big issue," Kevin Walsh understands that inflation was not a big issue because the private sector was not borrowing money, and they are not borrowing money because of balance sheet problems. But balance sheet repair is a stock adjustment process. At some point, balance sheets will be balanced again, 10, 15 years, and then these people come back and start maximizing profits instead of minimizing debt. And when the private sector returns to profit maximization with clean balance sheets, and if you have all these reserves in the banking system, then inflation can pick up very, very rapidly. That's what he is trying to prevent. What that means is that the reserves are up here now, 613. He wants to bring this down so that even if the borrowing picks up, it will not really add to inflation. He has not indicated at what pace he will do this. He put together some sort of a task, task force to, uh, study how fast the Federal Reserve can re-remove this thing. But the fact that the Federal Reserve will start reducing this thing will affect the market. It will probably push the long rates higher, while maybe short rates can go lower. Borch said, "We have to do this carefully, otherwise the bond market will collapse." And so, he understands the risk of, uh, doing, uh, quantitative tightening (QT) as opposed to quantitative easing (QE). But he is determined to do it. And so, those of us in the market have to be prepared for US yield curve from steepening, that it will steepen.
And how did someone like not get a job from Trump, right? He's trying to stop the inflation by tightening monetary policy. If you tighten monetary policy, of course, interest rates will go up. How did he get the job? He probably told Trump the following way: "I like to do quantitative easing. If you do quantitative easing, uh, you remove this excess reserves in the banking system. So, there will be less inflation. And because there's less inflation, I can bring the short-term rates down." That's the argument apparently was used, according to Wall Street Journal report. Trump did not probably understand the first part, the quantitative easing part. He only understood the last part that he can bring the short-term, short-term rates down, and says, "Okay, you, you have the job." But at some point, Trump may regret that yield will be steepening. And in the United States, as you know, it's not the short rates that really matter for the real estate market. It's the long rates. And the Trump, Walsh is actually trying to push the long rates higher and bring short rates lower. And so, maybe a year from now, Trump will say, "Oh, this Walsh guy fooled me or betrayed me." That can happen. But the fact that he already got the job, and Trump actually selected him to this position means that we will going to see quite a bit of this unfolding going forward. I'm sure he will go slowly. I'm sure he will be very careful not to destroy the whole bond market, which can happen. But we haven't seen anything like this before. We never see quantitative easing until 2008. Now we'll be seeing, you know, quantitative tightening, uh, starting this year.
Now, I don't want to sound too alarming because if you look at other countries, this is, [clears throat] the European Central Bank, and the European Central Bank has been reducing, uh, excess reserves in the banking system. So, European rates are, in that sense, little higher than usual because the European Central Bank is doing quantitative easing. Uh, this is Bank of England. Bank of England has been doing that also. So, only US and to some extent Japan. Japan is still way up there. So, Japan and US are now moving toward quantitative easing. Other two are already on their path. So, they will just probably continue what they're doing. But given the size of the US market, given the influence of the US market, we have to watch, uh, how this is all going to unfold. I fully agree with, uh, Mr. Walsh's sense of urgency because if we, if he doesn't do it, and the borrowing by the Americans continue to increase, as you saw earlier, we might be really hit by very nasty inflation, given how much excess reserves are already in the banking system. And so, I hope he will succeed. But I hope he does it in such a way that it won't destroy the markets all around the world, because quantity, quantitative easing is very easy on the way out. It's extremely hard on the way out, because by the time you have to remove this money, private sector is also already borrowing money, right? So, when people want to borrow money, and you try to remove the money out of the system, that can push interest rates sharply higher. And so, QE was easy on the way in, very difficult on the way out. And we will be facing those challenges going forward. I hope he succeeds, but there could be quite a bit of volatility going forward.
Thank you very much. [music]