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Fareed Zakaria GPS

Financial Markets Meltdown; Interview With Lee Kuan Yew

Aired September 21, 2008 - 13:00   ET

THIS IS A RUSH TRANSCRIPT. THIS COPY MAY NOT BE IN ITS FINAL FORM AND MAY BE UPDATED.

FAREED ZAKARIA, HOST, GLOBAL PUBLIC SQUARE: Welcome to the GLOBAL PUBLIC SQUARE, to our viewers in the United States and around the world. I'm Fareed Zakaria.
Well, will historians look back and say this was the week that the American model of capitalism died? For two decades, American finance has been a global juggernaut, coursing through the world and telling the rest to follow its lead.

But the whole thing seems to have rested on a massive amount of risk, with most investment banks leveraged at 30-to-one, and most financial institutions mimicking these banks.

All of that meant keeping the world's confidence was key. But has that confidence run out?

When I was thinking about this, I remembered something Tom Friedman, the "New York Times" columnist, said last week on this show about the United States.

(BEGIN VIDEO CLIP)

TOM FRIEDMAN, COLUMNIST, "NEW YORK TIMES": If you jump out of an 80-story building from the 80th floor, for 79 stories you can think you're flying. It's just the sudden stop at the end that gets you.

And that's what I'm worried about, that we're going to have a sudden stop at the end.

(END VIDEO CLIP)

ZAKARIA: Well, is this the sudden stop? We'll find out.

Joining me now to talk about this global financial crisis is, from Oslo, Norway, Martin Wolf, columnist for the "Financial Times." From Washington, Congressman Barney Frank, chairman of the House Financial Services Committee.

Here with me in New York, Zachary Karabell, president of RiverTwice Research, where he analyzes economic and political trends. And Niall Ferguson, the professor of economic history at Harvard University.

Niall Ferguson, what is this going to look like in history? Is this the big one? NIALL FERGUSON, AUTHOR AND PROFESSOR OF ECONOMIC HISTORY, HARVARD UNIVERSITY: Well, it's not the Great Depression. It's more like the great repression.

All the factors are in place for a repeat of '29 to '32, except that the monetary authorities and the fiscal authorities are doing the right things, whereas they did the wrong things back in the early 1930s. So, I'm thinking of it as a great repression.

It could be the next big one, that one-in-a-century type event that Alan Greenspan was talking about the other day. And unfortunately, it's not clear yet whether it's enough for us simply to nationalize bad companies and let a few other bad companies go down. It's not clear yet whether a generous monetary policy can suffice to stop this downward spiral in valuations.

And my sense is that this is almost the endgame for a certain way of thinking about financial markets. We'd sort of assumed that the lesson of the Great Depression was that the Fed, if it did the right thing, could prevent this kind of deflation of assets from spiraling out of control, and that if all else failed, the Treasury could step in.

And I'm not sure that that's going to turn out to be true. So, this may end up invalidating a lot of what we thought we knew about the last big one.

ZAKARIA: Martin Wolf, what about that point, that this seems to suggest that the entire, at least American model of investment banking is somewhat suspect, that, you know the whole -- the fundamental model is that these investment banks take 30-to-one leverage and basically turn the bank into a kind of casino in which they're betting large amounts of money?

And if that, you know, if that's the game and your stock price starts going down, all of a sudden you can't play the game anymore, because you're using your stock prices as part of your table stakes in the poker game.

MARTIN WOLF, COLUMNIST, "FINANCIAL TIMES": Given this mess -- and it is, obviously, a very fundamental mess and a profound challenge for that system, which I think is pretty well dead -- can we rescue it through standard fiscal and monetary interventions?

And here I really don't agree with Niall. My estimates of the likely losses on the worst possible assumptions indicate to me that the U.S. Treasury can certainly manage these losses. They're much smaller than other very big collapses that have occurred in other countries in the recent -- in the quite recent past. And I believe the monetary authorities will be able to get us through it.

But the model is broken.

ZAKARIA: Congressman Frank, is the model broken? Are these investment banks going to have to be regulated substantially?

REP. BARNEY FRANK, D-MASSACHUSETTS, CHAIRMAN, HOUSE FINANCIAL SERVICES COMMITTEE: Oh, absolutely.

I think one of the striking things about this -- and again, I -- accounting may be a factor. But there were some really bad mistakes made here of two kinds.

First, it began with subprime. And if you look at the issue, the regulated entities that originate mortgages -- the banks, the credit unions -- they did not make this problem. This problem came from loans that were originated by the unregulated sectors.

And then, the kind of things Martin Wolf is obviously referring to, they then took these initial bad decisions and multiplied them, and spread them and leveraged them, so that you got -- there are very real problems here.

It's striking that, in the current situation, we are going to the more regulated institutions, the banks -- the Bank of America, Barclays, JPMorgan Chase -- to help out the unregulated institutions. The more regulated the institution, the less likely there was to be a problem.

With AIG, what they're doing is taking the most regulated entities there, the insurance companies, and having them provide the revenues to meet the debts incurred by the unregulated.

So, clearly, there needs to be regulation going forward, thoughtfully done, that constrains risks and leverage that the system doesn't do by itself right now.

ZAKARIA: Niall Ferguson?

FERGUSON: I think what Lehman Brothers has in common with all the other failures, including AIG, was that this was a case of institutions, whether they were called banks or insurance companies, trying to behave like hedge funds in order to maximize their returns. And it turns out that this doesn't work too well.

I think we're going to see the disappearance of that thing we got used to calling the investment bank, which didn't actually collect deposits on its balance sheet. These things are going to be absorbed by banks that rely on the collection of deposits as one of their core competencies. Whereas, out of the chaos may emerge a new breed of big, strong hedge funds that are good at being hedge funds.

This is an evolutionary process. Think of it as being Darwinian. And this is one of these great dyings, when certain species actually are obliterated by a radical change in the economic climate.

It doesn't kill everybody, though. The mammals that I see emerging, so to speak, as the dinosaurs die off, are going to be the hedge funds that knew best how to handle these sorts of risks.

ZAKARIA: And in fact, the hedge funds have handled this risk must better, have they not.

ZACHARY KARABELL, PRESIDENT, RIVERTWICE RESEARCH: Yes, and they -- we don't see any huge implosions. The hedge funds aren't closing. They did a lot worse with commodity prices than they're doing with this particular crisis.

I think it's important to separate the housing issue from the current Wall Street crisis. And Congressman Frank, the housing issue certainly would have had huge ramifications politically, but it would not have -- or should not have -- absent this financial leverage, brought down the financial system or been the kind of economic issue that we're now talking about.

What you need to do is -- and all these earlier crises, and Niall could speak to this much better, I'm sure -- is prevent these moments of panic turning into runs on the bank.

And what we're seeing right now is a virtual run on the bank. It's not a run for assets and money involved. It's a run for sort of derivative or applied value.

FRANK: All right, but I have to respond on the...

ZAKARIA: Yes, yes, yes.

FRANK: ... subprime situation.

I just disagree that it was only a housing thing. Look, the problem was that they made these bad loans in the very large amounts, and they bought them and sold them.

It was -- it is not the case that it's housing as opposed to the financial situation. It was these very institutions that got themselves in trouble by basing these decisions and leveraging with the bad loans.

If there were no bad loans made initially, if there were no bad decisions made to feed into the system, then you don't have the problem. Accounting doesn't cause the problem when there's no reality.

ZAKARIA: All right. Let me ask another question, which is: Are we now agreed that we are in for a phase of regulation, that the era of Thatcherism and Reaganism has kind of run its course?

Martin Wolf, are we going to be in for a new age of some kind of more regulated capitalism?

WOLF: Well, there's a very big question, which is: Will this call into question the whole movement to somewhat freer markets to liberalization across everything -- trade, movement of people, movement of capital? That's a very big sort of question about the whole zeitgeist, the time we live in.

And I think it is possible, but not logical -- it is possible but not logical that people will look at this and say, "Well, this free market stuff is complete junk. It's obviously not what we should believe in. We should go to a more regulated existence -- more controlled, more nationally oriented across the board." I think that would be a tragedy, but I think it would be possible.

The more specific question, though, is about the financial system. We have operated in a financial system -- and I've always been aware of this -- in which there are huge implicit guarantees and many explicit guarantees from the state to the financial system as a whole. Because as we've seen yet again in this case, even a Republican administration can't let major financial institutions just disappear.

Now, if you provide those sorts of guarantees, and at the same time allow the financial system to operate like a gigantic and uncontrollable casino, you're asking for catastrophe.

So, it seems to me perfectly obvious that the real lesson of this is that the financial sector will have to be regulated in different ways. I think it's about -- and what Congressman Frank said is absolutely right -- intelligent regulation, which fundamentally changes the incentives these people face.

But there isn't any doubt we can't allow the system to operate in the way this one does, which is essentially at the taxpayers' expense.

FRANK: Can I say...

ZAKARIA: Yes, please.

FRANK: Let me respond on the regulation issue.

Look, we've evolved on the conservative side. The conservative icon, Ronald Reagan, in his first inaugural says, "government is not the answer to the problem; government is the problem."

We now have Secretary Paulson and Chairman Bernanke appearing on Wall Street, and their announcement is "We're from the government. We're here to help you."

Clearly, there has got to be a constraint on risk-taking and the highly leveraged risk-taking that the system doesn't provide itself.

And I would say that becomes pro-market, because as we now see, we have investors that are not buying what they should buy. We've got an investors strike. And until and unless there is some assurance to those investors, that has to come in part from sensible regulation, they don't go back in.

ZAKARIA: Niall Ferguson?

FERGUSON: One of the big dangers is that, in the wake of every financial crisis there has been in the last 200 or 300 years, there's been a rush to change the regulations in the belief that the regulations must have been the problem.

I think we have to realize two things. One, financial crises are inevitable in any kind of market economy, because of the nature of human psychology. I mean, we are prone to euphoria, and we are prone to depression, to mood swings. And the financial markets reflect that.

And no...

FRANK: But professor, what I'm saying...

FERGUSON: Can I just finish, congressman.

And no amount of regulation can stop that happening.

The 1970s were a time of very large-scale government regulation. Were there financial crises in the 1970s? You bet there were. The secondary banking crisis in the early 1970s wiped out a whole bunch of institutions in London.

There's never been a time when regulation has magically abolished financial crises. They always happen.

And finally...

FRANK: We're not trying to...

FERGUSON: ... let's remember, congressman, let's remember that part of this problem has been a result of Congress' action. It was Congress that turned a blind eye to Fannie Mae's extraordinarily highly leveraged antics.

It's not as if Congress has not been implicated in much that's gone into this crisis.

FRANK: Well, you're -- A, you're tilting at a straw man. The notion that regulation will abolish crises -- no one thinks that. But you do respond.

When you say that these regulations are always wrong, I don't think the establishment of the Securities and Exchange Commission or deposit insurance, which came out of the New Deal in response to a crisis, were bad things.

As far as Congress is concerned, in 1994, the Congress did tell the Federal Reserve to regulate mortgages issued by non-regulated entities.

Alan Greenspan said, "No, I don't know more than the market. I won't do it."

Ben Bernanke, to his credit, has now used that authority.

If Greenspan had done with regard to subprime mortgages in 2002 what Ben Bernanke just did this past summer, we would have had a much smaller crisis.

ZAKARIA: OK.

KARABELL: But you still would have had the issue of Wall Street financial wizardry is going to find things to create leverage on. And if it hadn't been homes, it'll be something else.

So, if you only attack the home issue...

FRANK: Oh, I think that's mindless.

KARABELL: ... you're not going to change the fact -- you know.

ZAKARIA: All right. Let me...

FRANK: If you had not had millions of bad loans made...

KARABELL: Yes, that is...

FRANK: ... you would not have had as big a problem.

KARABELL: And the current crisis is a result of that. But Wall Street will, in fact, find other things to apply leverage...

ZAKARIA: All right. Hold it right there. We're going to take a break, and we will be right back.

(COMMERCIAL BREAK)

ZAKARIA: And we're back with our panel.

It strikes me, Martin, that this helps the left, that in the American presidential context, it helps Obama, that in general terms, if you believe that we're in -- you know, we need to regulate markets, people are going to say, you know, Democrats will be more willing to do this than Republicans.

Is that fair?

WOLF: Well, you're asking me, which quite improperly, to make a judgment on the politics of another country. It would seem to me, at least...

ZAKARIA: Remind me you're not the foreign secretary, Martin.

WOLF: ... this is true, that in -- that at least this is true, that in the last several years, I agree with the congressman that the underlying losses in the lending for housing is a crucial trigger, whatever else happened.

And that was the product of a philosophy, which was applied to particularly the housing bubble, which has been far away the most destructive of these various bubbles in the developed world. And that philosophy was carried out under a particular administration, until very recently a particular Congress.

It would seem to me to have political implications, which are fairly obvious, but that politics isn't rational.

But however, I should stress that in my own country, which also has a big housing bubble and a pretty large number of problems, this has actually happened under a left-of-center government. So it's not completely obvious how the politics will go.

But the incumbents, the people who were there when this happened, surely will have to take the blame.

ZAKARIA: Niall, is this...

FRANK: Can I just say...

ZAKARIA: Yes.

FRANK: I have to say...

ZAKARIA: Is this a left-right issue?

FRANK: I have to go vote, speaking of politics. I'm here in the Capitol. We're taping this. And there is a roll call in progress, so I apologize. I have to go tend to more parochial politics.

ZAKARIA: All right. Congressman Frank, thank you very much for joining us.

Niall, is this a left-right issue?

FERGUSON: I wish I knew what he was voting on.

I think it could be. It's not quite clear that that's how the candidates are going to play it yet. They're both, it seems to me, rather struggling to find the right note to hit on this crisis.

It ought to be, as you say, Fareed, a slam dunk for the Democrats. And it ought to be, really, Obama's opportunity to be the Franklin Roosevelt of his generation. But somehow, this doesn't come naturally to him. It doesn't really seem to me to be his strong suit.

And what I think we may end up with is a slightly sort of soft, soft version of the New Deal being offered by Obama, and John McCain having to counter with another kind of Rooseveltian economics -- Teddy Rooseveltian economics -- saying, you know, this isn't going to be solved by increasing the power of the federal bureaucracy. This is about bashing bad guys on Wall Street, and bashing corrupt congressmen.

I think there's two different kinds of populism that can be rolled out at this point, one of which increases the federal government's power, and one of which doesn't necessarily. And I'm not sure it's clear which one American voters will go for yet.

ZAKARIA: Zachary?

KARABELL: I do think there is a strong populist advantage here for Obama, I mean, largely because it plays into that part of the Democratic base.

And so, there's this American Dream of everyone owning their home. So you already have the advantage of saying, well, you've gotten hoodwinked into not being able to own your home. Now you've lost the value of your retirement assets in the form of your 401K's with declining stock market values. And on top of that all, there's no protection. Nobody's minding the store.

And there's a certain amount of (inaudible), in that there are a lot of people who can take a certain delight in the fall of Wall Street right now. But even that plays, I think, into the Democratic base, because there's a sense of, well, perhaps justice will be done in the end, and that the people who took advantage of this system are now paying the price of that.

FERGUSON: The irony is that, actually, Wall Street seemed to be backing Obama rather more strongly than McCain prior to this crisis. Far more hedge funds and Goldman Sachs contributions to the Obama campaign than to the McCain campaign.

ZAKARIA: Let me ask about another kind of politics, finally.

Martin, it does seem to me that this also has another effect, which is the final or further de-legitimization of American power.

If the Iraq war sort of tarnished the credibility of American political power, this has tarnished the credibility of American economic power and the American economic model.

It is very unlikely that people will look at American finance capitalism, at these great American investment banks, with the kind of envy and awe that has happened for the last two decades.

WOLF: People thought the U.S. is the world's most successful, most dynamic economy. It's the model we all follow. It has been the one that has been pushing liberalization of economies, of financial markets around the world. And it has been touting its model. It's the one that rescued Asia back -- you remember the "Committee to Save the World" 10 years ago?

And now this, the very core of American credibility and power, is revealed as complete shambles, of total collapse of one great household name after another, the secretary of the Treasury and the Fed chairman rushing afterwards, desperately putting fingers in dikes.

There's no question at all, if you talk to Chinese officials, people from India, they look at this and they think, well, is this a model we want to follow? Is this actually the example that we all ought to believe in?

So, I think in this sense, it's unquestionably a very profound turning point.

ZAKARIA: Zachary Karabell, you're a little more optimistic.

KARABELL: You know, I don't think the model at all is in question, Martin. I think everybody has essentially embraced the model. And Niall has certainly written about this as well.

But people will look back at this time -- and I could say, "mark my words," but no one will -- people will look back at this time and say, this was the period of time when the global capital base literally went outside the United States, much the way the manufacturing base of the world left the United States...

ZAKARIA: Meaning what?

KARABELL: ... in the 1970s.

ZAKARIA: Meaning what?

KARABELL: Meaning we are no longer -- the United States is no longer the source of global liquidity, global capital, global investment money.

ZAKARIA: The de-Americanization of global finance, Niall?

FERGUSON: I'm not sure it's time to anticipate that yet.

You know, the American financial history is a series of crises, and often household names would evaporate. Who remembers now the Knickerbocker Trust?

Let's not forget that this is part of the American package, that banks fail. It's called "creative destruction." That was a great phrase used by Joseph Schumpeter.

When you look at the other models that are on offer here -- let's say, state monopoly capitalism of the sort they have in Moscow, or some kind of quasi-liberal planned economy of the sort they have in Beijing -- are those faring any better at the moment? Actually, no.

I know which stock market is down most in the world, and it sure isn't the U.S. stock market. Actually, it's the Russian stock market right now.

ZAKARIA: But so is the model...

FERGUSON: Let's not assume there's an alternative model that everybody can embrace, that somehow could proof against crisis.

ZAKARIA: But could the model be more European banks, which are much less leveraged, which have been -- which have not reaped the rewards of the last two decades quite as much, but are not imploding before our eyes?

FERGUSON: The last time I looked at the numbers, they had lost just as much money in the subprime crisis as their American counterparts. And it's only really a somewhat different set of arrangements between governments and finance that are preventing banks in Switzerland and in Britain from going bust.

KARABELL: But the issue, Niall, is not that this represents the failure of the United States long term. The globalization of capital can be immensely beneficial to any of the players within it.

And the manufacturing example is quite germane in that, yes, it's true that a lot of people lost their jobs in the 1970s. Pittsburgh was a disaster zone for 15 or 20 years. But Pittsburgh today is, you know, a high-tech service capital. And you have this transition in that creative destruction way.

It doesn't mean that the United States becomes a substantially poorer or less affluent society. It just means that the base becomes much more disperse. And I think that's what we're beginning to see, not the erosion of the model.

ZAKARIA: Martin Wolf, you get the last word from Oslo.

WOLF: I think your distinguished contributors are dreaming.

(LAUGHTER)

What's happened -- of course, they are quite right. Of course there's globalization of capital...

FERGUSON: So what is this all (inaudible), Martin, if it's working so well?

WOLF: ... and all the rest of it. All this is true.

The fundamental point -- the fundamental point is that the rest of the world, whether they're right or wrong -- they may well be wrong. Maybe the U.S. is the ideal model.

They are not going to allow the sort of deregulated, market-based as opposed to financial institution-based financial system develop and operate that the U.S. has had and has touted as a model. And I think that seems to me quite clear.

So we can have multiple models, somewhat different. And those multiple models will survive, and we won't have economical model. And that's what's changed.

ZAKARIA: All right. On that note, Niall Ferguson, Martin Wolf, Zach Karabell, thank you very much.

(COMMERCIAL BREAK)

ZAKARIA: When I first met Lee Kuan Yew in 1994, I was absolutely struck by him. Richard Nixon once compared him to legendary statesmen like Disraeli, Bismarck and Churchill. But, Nixon said, he occupies a small stage. That stage doesn't look so small anymore.

Lee Kuan Yew took a small spit of land in Southeast Asia, which became independent in 1965 after great struggle and anguish, with no resources and a polyglot population of Chinese, Malaysian and Indian workers, and turned it into one of the economic centers of the world.

To do this, Lee had to have smart economic policies, but also a shrewd foreign policy that, allied with America, kept China happy, kept Russia and Japan at bay.

This week I sat down with Lee Kuan Yew in Singapore. His son now serves as prime minister, but Lee Kuan Yew is called "minister mentor." And he is still indisputably the father of Singapore.

I was struck by the depth of his understanding of the world -- China, Russia and the United States -- all at age 85.

Listen to this.

(BEGIN VIDEO)

ZAKARIA: You have achieved remarkable success for Singapore in your lifetime. You've seen it go from a tiny, poor, backward, Third World country to one of the richest countries in the world.

But lots of people feel that you have been -- you have exercised too tight a control, that you should have opened things up more, that it has been too domineering and coercive a state.

What do you say to that?

LEE KUAN YEW, FORMER PRIME MINISTER OF SINGAPORE: I say, ask my people. They are given the vote. It's secret.

Nobody has ever alleged any chicanery -- no bribery, no coercion, no nothing. We have never won less than 60, two-thirds of the vote.

ZAKARIA: But it's difficult for opposition parties to form and...

LEE: It is not the business of the government to enable the opposition party to overturn us. Right?

Do you expect the Republicans to help the Democrats to overturn them?

ZAKARIA: No, but leave aside even just the issue of political competition. I just mean you have laws, for example, that allow random testing of people for drugs. You have, you know, the famous ban against chewing gum, which exercised people's imagination.

Do you feel that you should have let up a little bit?

LEE: No, not at all. Because of that, we are now a safe, secure, fun city. The night scene has been transformed in the last 10, 15 years -- any number of nightclubs, the night life, al fresco dining by the riverside.

ZAKARIA: And people can even chew gum now.

LEE: You need to have a medical certificate to buy gum for those who want to give up smoking and have got to chew some nicotine.

What is it I am trying to do? I am trying to create, in a Third World situation, a First World oasis.

I am not following any prescription given me by any theoretician on democracy, or whatever. I work from first principles, what will get me there -- social peace and stability within the country, no fight between the races, between religions, whatever, fair shares for all, everybody is a homeowner.

I want investments. I've got nothing expect skilled manpower, infrastructure. I build up the infrastructure. I educate the people.

We have the best educated work force anywhere in Asia, and I would say, within another 10 years, anywhere in the world. They're all educated in English, which is our working language, and they keep their mother tongue, whether it's Chinese, Malay or Tamil, Urdu, or whatever.

Must I follow your prescription to succeed? Do I want to be like America? Yes, in its inventiveness and its creativeness.

But do I want to be with America, like America, with its inability to control the drug problem? No. Or the gun problem? No.

These are my choices. I go by what is good governance. What are the things I aim to do? A healthy society that gives everybody a chance to achieve his maximum.

ZAKARIA: What do you think of the American campaign, watching it from Singapore?

LEE: What can I say? It's fascinating.

Suddenly, Senator McCain produces this governor from Alaska, Palin, and is leading in the polls, and she's a hit. The first flush, she was a disaster.

ZAKARIA: What do you want from the next president?

LEE: Engagement with the world. Keep trade going. Don't backtrack, or you'll put yourself at a disadvantage and put the world at a disadvantage, and you make conflicts more likely.

Try and maintain a balance, so that peace and stability is assured without more conflicts.

ZAKARIA: One thing you've been critical of the United States of in the past has been its efforts to spread democracy around the world. You were critical of it when it was Bill Clinton's America, leave alone the freedom agenda of George Bush.

What do you object to in that push?

LEE: No, I don't -- I don't think it's doable. I'm a social Darwinist.

ZAKARIA: Survival of the fittest.

LEE: No. The survival requires you to change. If you don't change, then you are marginalized and you will become extinct.

ZAKARIA: But do you look at the way in which the United States has been trying to push democracy around the world...

LEE: Yes.

ZAKARIA: ... and you say...

LEE: Where have you succeeded? You went to Haiti in nation- building. And I was just listening to a BBC on Haiti recently. I mean, it's just undoable.

ZAKARIA: And we will be back.

(COMMERCIAL BREAK)

ZAKARIA: What about Iraq? What do you think?

LEE: I was in favor of getting rid of Saddam Hussein. I did not believe it was possible to reconstitute Iraq as a democracy. I still do not believe that is possible.

ZAKARIA: So, what do you think will happen?

LEE: I think some compromise must be reached between the Shias and Sunnis and the Kurds to share the oil wealth and to share the country. And that is possible.

But whether it is democracy, or whether it's a bargain between tribal chieftains, that's a different matter.

You're going to bring democracy to Afghanistan? They have been warring with each other for hundreds of years. They enjoy warring with each other. Thirty-plus years ago they killed a king who was nominally holding the country together, and it's been shattered ever since.

How do you restore the writ of Kabul? By some 30,000 NATO troops, ISAF, and a few more brigades of Marines or special forces?

The Russians had 140,000 boots on the ground with tanks, helicopters and the lot. And they left.

I think nation-building is not doable. I mean, are you going to do nation-building in Pakistan? If you can't get Pakistan right, you will never get Afghanistan right.

That Durand Line was arbitrarily drawn by the British between the Northwest Frontier Provinces and Afghanistan. They are the same tribes, brothers, cousins -- porous borders. They're in and out.

Now you've not only got Talibans, you've got Pakistanis joining the Talibans -- or that's the latest intelligence that I've been reading.

It can go on for decades. Do we want to be in Afghanistan for decades?

ZAKARIA: A lot of people look at the Russian attack on Georgia and say this is the return of a kind of dark era of geopolitics.

How do you view it?

LEE: The country is booming, has got enormous oil wealth. But the underlying problems are enormous. The system is no longer the Soviet system, where you press a button and things move across the country.

The corruption will take quite some time to put right -- maybe a very long time. I don't know.

The population is not on the increase, in spite of all kinds of incentives. And the incentives will only work in the cities.

So, if you look at the long-term trends, it's 140 million Russians, who will go down to 120, 110 in 2050. How do you become a threat with just nuclear weapons?

ZAKARIA: Has America handled this crisis well?

LEE: It shouldn't have led to this crisis.

You are dealing with a very adventurous leader in Georgia, and he acted in a very unwise fashion. It was just too silly for words.

What was the point? What was he trying to score?

And bad intelligence, because good intelligence -- what I read of the intelligence reports -- the Russian troops were there, ready. And if good intelligence, they would know what the reaction would be, and they would have blocked the tunnel, blown up the tunnel, and prevented the tanks from coming in.

This is just bungling. And...

ZAKARIA: By Washington also, because we should have managed this better?

LEE: I do not want to guess why the Americans were so keen to bring Georgia into NATO. But at Bucharest, when the NATO meeting was held, Americans should have known that it wasn't warmly received by the people who would be on the front line, if ever there's a conflict. And the Russians know that.

ZAKARIA: And we will be back.

(COMMERCIAL BREAK)

ZAKARIA: When the world saw the Beijing Olympics, and they saw the opening ceremonies, they saw a kind of birth of a new great power. How should we think about it? Should we be apprehensive?

LEE: What we saw -- and I was there with a lot of other of the VIPs -- was a reflection of their capabilities, their potential. It's not what they have achieved industrially or technologically. This was a show that they had seven years to prepare for. And they were carefully thoughtful about what they wanted to present to the world. They wanted to remind the world that they are an old civilization, 5,000 years. They discovered gun powder, paper, movable type, printing. They built the Great Wall.

That's the kind of capabilities for disciplined effort that built the Great Wall, the Grand Canal, and eventually will build them a technological society.

ZAKARIA: So you don't worry about them.

LEE: What do they want? Every year they know they are closing the gap. That gap is a huge one.

ZAKARIA: Technologically between them and the West.

LEE: Technologically and industrially.

I mean, what you see along the coastal provinces is just about 20, 30 percent of the population, the advantaged part of China. If you go to the inland parts, you will see a very different China.

So they know that to catch up is 30, 40, 50 years. So, let's not quarrel with anybody. That would abort the whole process.

Every year they grow stronger economically, industrially, catching up technologically. Any external problems will diminish their growth.

What do they have to worry about? Internal problems, social unrest, disparity in development, wages, farmers against the city dwellers, and so on.

The danger comes when you have, say, in 20 years a new generation that didn't go through the Cultural Revolution, never went to the Long March, and who believe that China has arrived. So, this is a new phase they are moving into.

And worldwide problems -- the biggest problem of all is climate change, energy.

ZAKARIA: Do you think the Chinese will be willing to reduce their own CO2 emissions, which would involve in some way placing limits on their growth? It doesn't seem that they are willing to do it.

LEE: For the time being, I think they are hoping it's not so bad. Per capita, their consumption is so low compared to the Americans.

But when the glaciers in the Tibetan Plateau, in the Himalayas melt away, and they are doing it at about four meters per year, and the big rivers that feed off these glaciers become seasonal only with rain, and that affects their crops and their farmers along the river basin, I think they'll have to sit back and ask themselves, do you want this huge upset in your demography? Do you want Shanghai and their coastal cities to be inundated? So, I hope the message -- the penny will drop within five to 10 years.

You look at the way the Chinese are spread across the world -- not just in Asia, you know, all over, Arabia -- all Chinese workers construct. What is it you want? New palace? New conference hall? New airport?

They've got 1,300 million people. You've only got 300 million. So, they've got four times your number. So, and they are using those numbers.

Every mission they have in Southeast Asia, their diplomats speak the language of the country. And in the Gulf, when I went there, I found that every mission, the Chinese mission speaks perfect Arabic. And I'm sure they do the same in Latin America and in Africa.

ZAKARIA: This is sounding like a power to be feared.

LEE: No, no. This is an ancient power that kept its language skills. This is not a new power. This is an old power revived. That was the lesson I took from the opening of the Olympics.

ZAKARIA: You turn 85 tomorrow. Is there a lesson? What are the secrets to longevity and success?

LEE: Your life span depends on what you've inherited from the two helixes you got from your mother and father. My father lived to 94. My mother died at 74 with some heart problems. I had my first heart problem when I was 74 in 1996.

Fortunately, unlike her time, they could do an angioplasty and a stent. So that solved it.

The day before yesterday I had atrial flutter, so I don't think I'll reach my father's 94.

ZAKARIA: But you're going strong. I mean, you could...

LEE: But day after tomorrow, something could go wrong with the ticker, and then, that's that.

ZAKARIA: Do you have any regrets?

LEE: No. I've discharged what I had to do. As long as -- every day is a bonus.

I take every day as it comes. I see the sun rise, I see the sun set. I eat less than I want to. I swim and I cycle. I sleep well of nights, and I enjoy my work.

But 70 to 80 percent is what I inherited from my parents.

ZAKARIA: Lee Kuan Yew, a great pleasure to see you.

LEE: Thank you. (COMMERCIAL BREAK)

ZAKARIA: Thirty-three years ago this week, a young woman with a thin resume was elected leader of Britain's Conservative Party. Thus began the remarkable career of Margaret Thatcher, who both spurred and symbolized one of the most dramatic eras of change in modern history -- the rise of free markets, free trade, privatization and deregulation.

Addressing herself to the core problems of the 1970s -- inflation, stagnation, over-regulation, slow growth -- Thatcher, and with her, Ronald Reagan, enacted their economic agenda. Initially highly controversial, as Britain and America prospered and the Soviet Union collapsed, Thatcherite ideas became main stream, accepted by the likes of Bill Clinton and Tony Blair.

But the problems of today do not seem as easily solved by Thatcherism -- tax cuts, deregulation, privatization. People are worried about widening inequalities of wealth, soaring health care costs, the competition from emerging market countries.

The next governing ideology is likely to be something that, while still friendly to markets and trade, finds a way to address itself to these problems and anxieties. Whoever captures this new ground will dominate the next era, as Thatcher did hers.

That's it for GPS this week.

But I wanted to talk to you about our question. Last week I asked: Do you think Israel will attack Iran before the next American president takes office?

I got many responses, all well considered, but opinion was divided right down the middle. One e-mailer cautioned me, be careful what you ask. Whether your answer was yes or no, many of you were frightened at the possibility.

For this week I want to know, who on the campaign trail do you think benefits most from the current economic situation, the Democrats or Republicans?

As always, thank you for all your e-mails. I can't answer all of them individually, but I read them, so please keep them coming.

You can e-mail me at fareedzakariagps@cnn.com. You can also visit our Web site, cnn.com/gps, for highlights from this program. And you can always find our weekly podcast on the Web site and iTunes.

That's it. Thank you. I'll see you next week.