Our Financial Predicament From a Systems Perspective with Lyn Alden | TGS 188

The US escaped its comparable 1940s public-debt-to-GDP peak through a combination of strong growth and inflation alongside explicit yield curve control: the Fed grew its bond holdings roughly tenfold from 1942-1945 and pegged the yield curve (e.g., ~1/3 of 1% at the front, 2.5% at the long end) with an open bid, holding yields at 2.5% even when inflation peaked at 19%.

“they did yield curve control... at one point we peaked at 19% inflation, but they still, held yields hard at 2.5% even on the long end of the curve... The Fed, increased their total bond holdings by about tenfold, from 1942 to 1945. and, they, pegged each part of the yield curve.”

Egypt is a useful semi-extreme (but functioning, not Venezuela-level) case study of energy-constrained debasement: over a decade its per-capita energy consumption topped out and declined—at roughly one-eighth the US level rather than after meeting needs—while money supply grew 15-20% per year, producing summer rolling blackouts, lackluster telecom, more work-hours required to buy a car or laptop, and mal-investment in pre-built ghost-city real estate as people seek a store of value beyond the depreciating local currency.

“over the past 10 years, Egypt has had declining energy consumption per capita... at about one eighth the level per capita... they're still growing their money supply rapidly... instead of something like 7% a year, for them it's like 15 to 20% per year.”

The Great Depression was preceded by a multi-decade buildup of credit enabled by 19th-century telecommunications that let people transact in IOUs for gold worldwide while gold barely moved, creating a hyper-efficient but highly centralized and heavily levered (about 20-to-1) four-layer stack of ledgers vulnerable to the failure that only ~5% of claimants redeeming gold would expose.

“humans invented telecommunication systems and then they spread them across the Atlantic... and we started transacting in IOUs, very quickly around the world. and they were IOUs for gold, and gold barely ever moved anymore. and when that happens, the entities in question... become very reliant on the big centralized ledgers”

Currency debasement creates winners and losers: anyone not on the receiving side of the deficits effectively pays for it through debasement, and because every wage and contract is denominated in the currency, printing decisions reallocate real value—hardening the currency benefits some, weakening it benefits others, with wage-earners and small businesses selling for the currency most exposed.

“anyone who's not on the receiving side of the deficits is kind of paying for it with their debasement... anyone's wage that's denominated in a currency. Basically every contract that is nominated, that currency gets affected by printing decisions.”

In energy-constrained economies with blackouts, richer areas are prioritized while the impoverished bear the brunt of power loss, and acute resource conflicts emerge—exemplified by Egypt's multi-year political conflict with Ethiopia over the large dam that can reduce Nile flow, with desalination remaining too energy-intensive and expensive to be a ready alternative.

“the way that economies tend to work is that richer areas will be prioritized... it is usually the, more impoverished that face, more of the challenges... to their South Ethiopia has built a very large dam, that can potentially reduce the flow of the Nile.”

Debt is fundamentally a claim on future energy and materials, because money in your pocket is a claim on energy and materials when spent, and therefore aggregate financial claims are claims on real-world energy, materials, and ecosystem functioning—a constraint that did not bind as tightly 80 years ago.

“the way that I think about debt, is money in our bank, in your pocket, in your wallet... It's a claim on energy and materials when we spend it largely. And therefore, debt is a claim on future energy and materials.”

At the sovereign level there is some de-dollarization (uptick in central banks holding gold instead of Treasuries), but at the grassroots level there is none—people in places like Cairo still want dollars as much as ever due to network effects, liquidity, and branding—so stablecoins are a mechanism that, around the margins, supports the value of the dollar by making it easier for ordinary people abroad to obtain dollars even as their governments try to de-dollarize.

“generally speaking from the bottom up level, there's been no such de dollarization. So, for example, you know, in the streets of Cairo, people still want dollars as much as they did before... the people want dollars 'cause there's network effects and liquidity. and the branding of the dollar”

Money is fundamentally a ledger used to price things and store liquid value; when that ledger is broken it makes the economy less efficient and pushes people toward mal-investment as they try to arbitrarily store value with varying levels of sophistication to protect themselves.

“Money is a ledger that people use and that could be a ledger that relies on nature like gold. It could be a ledger that relies on shared society, like basically central banking. So money's just the circulation mechanism. How we price things and how we store liquid value. When it is broken, it makes things way less efficient and it makes us more likely to do things that are mal-investment”

China's Belt and Road and Japan's private sector both reflect a strategic shift away from accumulating US Treasuries toward acquiring real assets abroad—loans, infrastructure projects, commodity and energy deposits, and part-ownership stakes—using their engineering and industrial bases to build the projects, though such holdings can be challenged during heightened nationalism and resource competition.

“the whole Chinese Belt and Road initiative has been a gradual shift towards saying, we don't want, we don't wanna keep accu accumulating treasuries. We instead wanna accumulate basically loans or other things to tie to real assets across the development world.”

US structural fiscal deficits are driven by two entrenched forces: accumulating interest-bearing debt on the public ledger, and baby-boomer demographics—the same generation whose home-buying years drove peak bank lending in the 1970s-80s is now drawing down Social Security and Medicare, turning a prior Social Security surplus into a deficit that flows back into the economy as claims on labor, technology, and energy.

“one is the accumulation of debt on the public ledger, which is, you know, for the most part interest-bearing. and then there's, demographics. So basically the, baby boom generation... now as that very large generation enters their retirement years, they're tapping into social security, they're tapping into Medicare.”

There are softer, less explicit forms of yield curve control besides hard pegging—holding the front end low to entice borrowers into the long end, captive buyers like banks and insurers required to hold paper, and QE to absorb supply; the Fed openly discussed YCC in 2020 as a 'break the glass' strategy, and the Bank of England executed emergency QE during the 2022 gilt crisis at ~10% inflation to halt a recursive leverage-driven yield blowout.

“there are softer ways to do yield your yield curve control. They're not so explicit... during 2020... the Fed Minutes... they openly discussed the possibility of doing yield curve control should they have to.”

During Europe's 2022 energy crisis (Russian gas disruption), Europe outbid poorer countries like Pakistan for marginal LNG—ships visibly changed course toward Europe paying top euro—illustrating that in resource competition wealthier blocs displace poorer, uninvolved nations.

“what they did was they outbid countries like Pakistan... you could see on the maps, like these ships would change course go toward Europe, where they're paying... top dollar or top euro for, the marginal, l and g and you're outbidding, sadly the, poor places of the world”

Physical or resource constraints tend to accelerate rather than stop the fiscal 'train' because the train is nominal: an economy that hits serious resource constraints typically sees its deficit blow out and its currency devalue sharply initially, rather than its deficit shrinking.

“the unintuitive outcome is that limits like that tend to accelerate the train because the train is nominal... when you come across an economy that does run into serious resource constraints, it's generally not that its deficit shrinks, it's that his deficit blows out and the currency units devalue very sharply initially.”

The Great Depression and the 2008 Global Financial Crisis are parallel events because both marked the peak of a private-sector debt bubble after which interest rates were cut to zero and even that proved insufficient to reinflate the next cycle, triggering a multi-decade rotation of debt from the private sector to the public sector—with World War I/the GFC and World War II/the 2020s pandemic playing analogous roles.

“When you build up a massive amount and you cut in rates all the way to zero, and even that's not enough to reinflate the next cycle. That's when you enter something more dramatic. And the two times the US reached, that was the Great Depression and then the global financial crisis.”

The US financial system is no longer officially tethered to gold, but in a de facto way it still is, because the decoupling of bank lending and dollar redemption from gold was gradual and pre-dated 1971; even after 1971 higher-level systems still operate on the premise of dollar scarcity, which (with division of powers and central bank independence) keeps the system more constrained than pure fiat would otherwise be.

“1971 just kind of made it official. and then after 1971, even though we're no longer tethered to gold at any sort of base level, many of those higher level systems are still kind of based on the premise that there's some scarcity to the dollar.”

Once a country exceeds roughly 100-120% public debt to GDP (especially combined with structural deficits from demographics), central bank rate hikes blow out the fiscal deficit via interest expense more than they reduce private bank lending, so the central bank loses its braking power over total credit and can even accelerate total credit while trying to slow it.

“The problem is when you get over a hundred percent or 120% debt to GDP, when the central bank raises rates, they actually blow out the fiscal deficit bigger than the reduction they do for bank lending. So they don't really slow down the amount of total credit in the system anymore.”

The only realistic way out of fiscal dominance is to let the economy run hot and grow nominal GDP faster than the interest rate paid on debt (e.g., ~7% real GDP versus 3-4% funding rates), which could theoretically bring debt-to-GDP down to 70-80%; but even in this 'run it hot' scenario you generally want to own almost anything other than bonds because money supply growth flows into scarce assets and rapidly devalues bonds and cash relative to what is truly scarce, including energy over the long run.

“the only potential realistic way out of fiscal dominance is to let the economy run hot, as you say, and grow at higher rates than the interest rates that we pay on debt. So running real GDP of something like 7%... that could theoretically bring debt to GDP down to 70 or 80%”

Developed countries with debt denominated in their own currency default through purchasing power rather than nominal default; over the past five years US Treasury holders were paid back every dollar owed but can buy meaningfully less of almost everything (consumer goods, services, stocks, gold, Bitcoin, energy), an 'invisible devaluation' equivalent to a partial default.

“if it's a developed country where the liability is are in their own ledger, they generally default through purchasing power... every treasury holder got paid back every dollar they're owed, but they can buy back less of almost anything, that they could compared to five years ago.”

When populations become impoverished they consume fewer resources (as seen in emerging-market crises with falling per-capita consumption), but governments are likely to respond to cheap inputs like $40 oil with multi-trillion-dollar stimulus packages or universal basic income to re-accelerate demand—both to avoid political revolution and because re-subsidizing demand 'reinflates' it, meaning the demand-destruction train also doesn't stop.

“if they find $40, oil, they're more likely to say, let's pass a multi-trillion dollar package, to re-accelerate some of that.”

The rest of the world has an incentive to minimize dollar exposure and hold assets the US government and banking system cannot create rapidly: holding a 4%-yielding Treasury while the dollar count grows 7% per year dilutes your share of the network, whereas gold yields nothing but grows only ~1% per year globally and cannot be frozen at the press of a button, giving it a lower dilution rate.

“if you're holding a treasury that pays you 4%, but the number of dollars going up per year is 7%. You're getting your share of the network is getting diluted. Whereas, for example, if you're holding gold... the amount of gold's only growing by maybe 1% per year globally. So your, dilution rate is generally less and no one can just press a button and freeze it”

Japan is furthest into fiscal dominance with over 200% debt-to-GDP yet remains resilient because it ran decades of trade and current-account surpluses (building large financial claims on the rest of the world), maintained a strong industrial base, and has a harmonious society—social capital that materially aids managing the state's ledger, where the US and parts of Europe score lower on social harmony.

“Japan is the furthest in fiscal dominance with over 200% debt to GDP. now people often ignore their Japan strengths, which is that they ran decades of, trade surpluses... and then there's also the fact that they have a Harmon rather harmonious society... it's basically a type of social capital.”

Keynesians argue government can provide a countercyclical force to smooth credit cycles, while Austrians counter that the whole project of central banking and rate manipulation amplifies the private-sector credit waves in the first place, so trying to put out one fire often starts the next; and although Keynes prescribed deficits in recessions and surpluses in good times, in practice governments always run deficits of merely different sizes.

“the auctions would say that the whole pro, the whole project of central banking and raising a lowering interest rates... is contributing to the, severity of those, private sector credit... waves... and that therefore trying to put out the fire often starts the next fire.”

Stablecoins effectively democratize the offshore bank account—dollar-denominated tokens on blockchains (Ethereum, Tron, Bitcoin layers) backed by T-bills, dollars, and bank accounts—that don't increase the number of dollars but change where dollars are; their two killer use cases are efficient cross-border payments (vs the correspondent banking system, useful where Africa has 40+ currencies and Latin America 30+) and giving non-Americans low-volatility dollar access they can't otherwise get.

“it's for two main reasons. One, cross-border payments. So for example, there's over 40 currencies in Africa... Latin America has over 30 currencies.”

Productivity gains should let people work fewer hours to afford goods, but in debasing economies the opposite happens—Egyptians must work more hours to afford a Volkswagen than five years ago—and they are partly saved only by external technological deflation, as Chinese carmakers rapidly climbing the quality stack (like Hyundai before them) offer ~$15,000 cars, making China the world's biggest auto exporter.

“It should be the other direction. if our productivity's improving, I should be able to work less for the car, but I have to work more for the car. Luckily, this other manufacturer comes in and says, tap the price.”

The current system is structurally biased toward the old and wealthy and against the young and especially the working/middle class who are too well-off to receive support but work all the time, because those not on the receiving side of deficit spending are impaired—so even as the aggregate train keeps powering on, the train stops for many individuals.

“the way it's kind of designed is that it's good for those that are either older or wealthier. On average, it's less good for those that are, younger and or, especially those that are kind of in the middle.”

The finance community's attention to energy is faddish—currently fixated on rare earths and Chinese material dominance because energy is relatively cheap and flowing readily—and will likely be surprised again when energy returns to the front burner, because professionals in every field are siloed and miss cross-domain disconnects that create both investment opportunities and policy errors.

“the financial community's kinda lost interest. Yeah. In the importa of energy, a front burner... I think once again, the, finance sector will be largely surprised by it.”

Humans are wired to expect a status quo as normal, but for roughly a century things have changed dramatically within a single generation and that change is only accelerating with AI; humans tend to be creative and push past frictions to find 'the next runway,' so the best one can do is be well-informed, cultivate virtue and connections, keep skill sets in demand, and align assets with what's coming.

“we're geared toward kind of expecting a status quo to be normal... I tend to err somewhat on the side of optimism in the sense that we tend to be pretty, creative as a species. So we tend to push things longer than we expect.”

Even if Bitcoin rises to a million dollars per coin, the resulting wealth inequality concern must be weighed against magnitude: at a million dollars Bitcoin is only ~2% of global capital (roughly a quadrillion dollars across all assets), comparable to gold's current ~2% share, with Bitcoin currently around 0.2%—so a 10x gets it to gold's size, achievable either by Bitcoin rising or everything else crashing.

“at a million dollar Bitcoin, the total value of all Bitcoin is about 2% of global capital... it's somewhere in the ballpark by quadrillion dollars... gold's around 2% already... Bitcoin's around 0.2%. so if Bitcoin 10 x is, it gets to roughly the size of gold”

In fiscal dominance the public sector now creates roughly as much or more net new credit per year than the entire private sector (net new bank loans plus corporate bond issuance plus private credit), reversing the prior 70-year norm where private sector credit creation dominated outside brief recessions.

“if you add all that together, the US fiscal deficit. It's about that size or larger. and whereas for most of the past 70 years, outside of kind of brief recessionary periods, private sector credit creation was bigger than public sector. but in fiscal dominance, public sector's bigger”

Total US debt relative to base dollars was around 50-to-1 or 60-to-1 going into the Global Financial Crisis, but because the Fed expanded the monetary base so much afterward, that leverage has shrunk to roughly 20-to-1 today, counting any contractual IOU for a dollar (bank deposits, bonds) against direct central bank liabilities (physical currency and bank reserves).

“total debt in the US system compared to base dollars, it was around 50 to one or 60 to one... now because they expanded the base so much, they shrunk that, now it's something closer to 20 to one, which is still significant.”

Stablecoin growth supports the front end of the Treasury curve (Treasury Secretary Bessent projects ~$3 trillion in additional bond demand) because stablecoins are backed by T-bills, but under the 'nothing stops this train' dynamic the long end of the curve still faces upward yield pressure, requiring eventual yield curve control.

“Treasury Secretary Scott Besant has said that stablecoin growth, is likely to help bring in an additional, I think, $3 trillion in treasury bond demand. So, I think that will help the front end of the curve. But under your Nothing stops this train narrative, then the long end, yields are, likely to stay under pressure.”

Bitcoin is not a credit instrument but final value delivered, combining portability and scarcity to make it easier to transfer than gold, yet it remains ultimately just portable capital—a way to store semi-liquid value within a network effect that one eventually intends to spend on goods and services or pass on.

“it's not a credit instrument, it's actually just final value delivered. and so Bitcoin has utility, but it's still just a ledger. It's still just a way to kind of store semi-liquid capital.”

MMT is essentially post-Keynesian: it observes that although the current system still legally operates as though on gold (the government must borrow to spend), under fiat the government could simply spend or print, and inflation is avoided not by the gold-era constraint but by directing printed money toward productive capacity (nuclear plants, semiconductor factories) so increased goods-and-services supply offsets the money-supply increase.

“MMT kinda looks at this and says, this is all fiat Now, you, could technically just spend... if you print money and do something productive with it, like build a bunch of nuclear power plants or semiconductor factories... then you'll have more supply of goods and services offsetting the increase in the money supply.”

MMT correctly observes that historically about 95% of money came into existence via commercial banks making loans (30-40 years ago), but as government spending to prop up social systems and the military exceeds what private credit creation provides, the government borrows the difference into existence, shifting the mix toward roughly 50/50 public/private money creation.

“It used to be 30 or 40 years ago that 95% of our money came into existence that way... So the government has to make up for the difference and borrows more, borrows money into existence... It's more like 50 50.”

Bitcoin is best understood not as a line on a chart but as an alternative base-layer ledger—a distributed, mutually-distrustful database operating outside central banking—that emerged only when decades of cryptographic and bandwidth advances (from David Chaum's 1980s Berkeley dissertation onward) finally converged; it doesn't solve energy or ecosystem problems but offers portability plus scarcity as a sound store of value.

“going back to David Chm, in his Berkeley dissertation, in the eighties. it was about how to operate a database or a ledger, by mutually distrustful entities.”

War is usually a productivity killer that simultaneously forces more fiscal dominance out of necessity, accelerating the nominal side while impairing the real side—which is why the 1940s were so inflationary, and why the 2020 pandemic stimulus charts looked like wartime finance even before the 2022 Russia-Ukraine kinetic war (crises tend to cluster).

“any sort of war is usually a productivity killer, but a war would also cause more fiscal dominance, out of necessity probably... when I was analyzing the, pandemic stimulus in 2020, I was like, if you just kinda looked at the charts... it looks like a war.”

AI-driven elimination of white- and blue-collar jobs could paradoxically cement peak oil: while boosting society-wide productivity, the large loss of income reduces demand for basic oil and diesel services (vacations, travel), suppressing oil demand toward ~$40/barrel, which would cement November 2018 as the peak because depletion and the accelerating Red Queen decline rate would catch up faster.

“the, reduction of white collar jobs... the large swath of loss of income from blue and white collar jobs, is going to be a reduction in demand for basic oil and diesel services... And therefore, if there's a drop in demand for oil and we go to $40 oil or something like that's gonna actually cement peak oil, which as of now is still November, 2018”