"China is digging out of a crisis. And America’s luck is wearing thin." — Ken Rogoff

China’s Leadership and Economic Crisis

Rogoff begins by reflecting on his experiences engaging with Chinese leaders during his tenure at the IMF. He recalls the competence and openness of Chinese technocrats in the early 2000s, highlighting their willingness to listen to diverse viewpoints, including his own. However, he notes a significant shift under Xi Jinping’s leadership since 2013, where political loyalty has increasingly overshadowed technocratic expertise. This centralization of power, Rogoff argues, has diminished the quality of leadership and contributed to China’s current economic difficulties.

The roots of China’s crisis, Rogoff explains, trace back to the massive stimulus program launched in 2010 under Hu Jintao’s government. This stimulus, particularly the local government debt mechanism, created structural imbalances that have persisted and worsened under Xi’s administration. Despite initial hopes that Xi would liberalize markets and reform the economy, growth has slowed, and the country faces overinvestment in infrastructure and real estate, sectors that now weigh heavily on its economy.

Rogoff shares vivid personal observations from his recent travels to various Chinese cities, describing the disproportionate scale of infrastructure and housing developments in medium-sized cities that feel eerily empty and underutilized. This overbuilding, combined with demographic headwinds and a lack of consumer spending, has led to a classical housing crisis. The Chinese consumer remains cautious, partly due to inadequate social safety nets and limited investment options, with housing traditionally serving as the primary store of wealth. The recent collapse in housing prices has further suppressed consumption, deepening the economic malaise.

He emphasizes that China’s extraordinarily high savings and investment rates have not translated into sustainable growth, largely because of financial repression and the lack of productive investment opportunities. Rogoff suggests that even if China were to eliminate financial repression today, the structural issues would not be resolved overnight, as the economy must rebalance from investment-driven growth to consumption-led growth—a difficult transition given social and economic realities.

Comparing Economic Strength: Nominal vs. Purchasing Power Parity

The discussion turns to how to measure and compare the economic strength of countries, especially in a geopolitical and military context. Rogoff distinguishes between nominal GDP, which reflects market exchange rates and is relevant for purchasing military equipment and global influence, and purchasing power parity (PPP), which better captures the domestic cost of living and production. While China’s PPP-adjusted economy is larger than the U.S., Rogoff argues that nominal GDP remains a more accurate indicator of geopolitical power, given the costs of military hardware and the dollar’s dominance in international finance.

He projects that China’s nominal GDP will reach about 75% of the U.S. economy by 2030, growing roughly one percent faster annually, but he is skeptical that China will surpass the U.S. in nominal terms by 2040. Rogoff attributes this to the U.S.’s dynamic and innovative economy, which, despite its flaws, maintains a creative edge that other large economies struggle to replicate.

Lessons from Japan and Financial Crises

Rogoff draws parallels between China’s current predicament and Japan’s prolonged stagnation following its financial crisis in the early 1990s. He explains that Japan’s crisis was partly triggered by external pressures, such as the Plaza Accord, which forced rapid currency appreciation and financial liberalization before the country was politically or culturally ready. The resulting financial turmoil led to a lost decade of growth, with Japan’s per capita wealth significantly lower than it might have been without the crisis.

He highlights that financial crises have long-lasting effects, often reducing a country’s productive capacity by 20-50%, and that recovery is slow and incomplete. Rogoff contrasts Japan’s consensus-driven, cautious approach to crisis management with the more aggressive U.S. response to the 2008 financial crisis, which, while painful, led to a quicker rebound. He warns that the U.S. is still grappling with the lingering effects of that crisis, with national income potentially 15% lower than it would have been without it.

The Future of U.S. Fiscal and Monetary Policy

Turning to the United States, Rogoff expresses concern about the country’s unsustainable fiscal trajectory. He foresees another spike in inflation within the next decade, driven by high debt levels and political inflexibility. Unlike the acute debt crises seen in countries like Greece, Rogoff expects the U.S. to experience a more drawn-out adjustment involving inflation, financial repression, and eventual austerity measures.

He explains that the U.S. benefits from the ability to print its own currency and avoid outright default, unlike countries in the Eurozone. However, this advantage comes with the risk of inflation crises, where the government effectively reduces the real value of its debt through rising prices. Rogoff warns that markets may become less forgiving if confidence in U.S. fiscal management erodes, leading to higher interest rates and borrowing costs.

Rogoff praises the Federal Reserve’s independence and competence in managing monetary policy but cautions that political pressures could undermine this independence in the future. He notes that while the Fed has resisted mission creep and maintained focus on inflation targeting, younger economists and policymakers are increasingly interested in broader social issues, which could dilute the Fed’s core mission.

The Role of Innovation, AI, and Interest Rates

The conversation explores the potential impact of artificial general intelligence (AGI) and AI on the economy. Rogoff acknowledges that rapid productivity gains from AI could be transformative, potentially easing inflationary pressures and supporting growth. However, he stresses that fiscal challenges are fundamentally political rather than purely arithmetic, and technological advances alone cannot guarantee fiscal sustainability.

Regarding interest rates, Rogoff expects long-term real interest rates to rise, influenced by factors such as increased investment needs, geopolitical tensions, and climate change. This contrasts with the low or negative real rates seen in recent years. He suggests that governments should consider locking in long-term borrowing at current rates to hedge against future increases.

The Dollar’s Exorbitant Privilege and Global Financial Dynamics

Rogoff elaborates on the concept of the U.S. dollar’s “exorbitant privilege,” whereby the U.S. can borrow cheaply by issuing safe assets that the rest of the world desires. This privilege allows the U.S. to finance large deficits and maintain global economic influence. While some argue this advantage may have contributed to the hollowing out of U.S. manufacturing, Rogoff views it as overwhelmingly beneficial, enabling the U.S. to invest in innovation and maintain geopolitical power.

He draws historical parallels to the Ming Dynasty’s reliance on silver as a stable medium of exchange and notes that the dollar’s dominance is supported by deep, liquid financial markets and the trust in U.S. institutions. However, Rogoff warns that this status is not guaranteed indefinitely and that complacency could erode the dollar’s central role.

Why America Remains Competitive

Finally, Rogoff reflects on why the U.S. has maintained its economic and geopolitical dominance despite challenges from rivals like the Soviet Union, Japan, and now China. He attributes this to a combination of innovation, dynamism, and, importantly, luck. The U.S. has benefited from favorable global developments and mistakes by competitors, but Rogoff cautions that this luck may be wearing thin.

He stresses that the U.S. must recognize the fragility of its position and the risks posed by political polarization, fiscal mismanagement, and global shifts. While optimistic about America’s potential, Rogoff urges vigilance and thoughtful policy to sustain its competitive edge in an increasingly complex world.