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Fareed Zakaria GPS

The State of U.S. Economy; Post-bin Laden Pakistan

Aired August 14, 2011 - 10:00   ET

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

FAREED ZAKARIA, HOST: This is GPS, THE GLOBAL PUBLIC SQUARE. Welcome to all our viewers in the United States and around the world. I'm Fareed Zakaria.

We have a wonderful show for you today. First up, the most important topic in the world, what is going on with the economy? Joining me are two of the most important economists in the world, Paul Krugman and Kenneth Rogoff.

Then, "What in the World?" would happen if China pulled its money out of U.S. debt? I call it mutually assured destruction. I'll explain.

Next up, Ahmed Rashid, the great journalist, will join me to talk about Pakistan post Bin Laden.

And in-depth look at what's really going on in London. What's behind this week's unrest.

But first, here's my take. Over the last week, liberal politicians and commentators in America took to the air waves and OpEd pages to criticize the debt deal that Congress reached. But their ire was directed not at the Tea Party or even the Republicans, but rather at Barack Obama, who, they concluded, had failed as a president because of his persistent tendency to compromise. This has been a running theme ever since Obama took office.

I think that liberals need to grow up. As "The New Republic's" Jonathan Chait brilliantly points out, there is a recurring liberal fantasy that if only the president of the United States would give a stirring speech, he would sweep the country along with the sheer power of his poetry and enact his agenda.

In this view, write Chait, every known impediment to the legislative process - special interest lobbying, the filibuster, macro economic conditions, not to mention certain settled beliefs of public policy - are but tiny stick huts trembling in the face of the atomic bomb of the presidential speech. This does happen if you're watching the movie "The American President," but not if you're actually watching what goes on in Washington.

The disappointment over the debt deal is just the latest episode of liberal bewilderment about Obama. "I have no idea what Barack Obama believes on virtually any issue," Drew Westen writes in "The New York Times." Confused over Obama's tendency to take balanced positions, Westen hints that his professional experience, which is as a psychologist, suggests deep traumatic causes for Obama's pathology.

Let me offer a simpler explanation. Obama is a centrist and a pragmatist who understands that in a country divided over core issues, you cannot make the best, the enemy of the good. Obama passed a large stimulus package within weeks of taking office. Liberals feel it should have been bigger. But, remember, despite a Democratic House and Senate, it just passed by one vote.

He signed into law an unprecedented expansion of regulations in the financial services industry, though it isn't one that broke up the large banks. He enacted universal health care through a complex program that was modeled after the Republican Mitt Romney's plan in Massachusetts. And he's advocated a balanced approach to deficit reduction that combines tax increases with spending cuts.

Now, maybe he just believes in all these things. Maybe he understands that with a budget deficit that is 10 percent of GDP, the second highest in the industrialized world, and a debt that will rise to almost 100 percent of GDP in a few years, we cannot cavalierly spend another few trillion hoping that it will jump start the economy.

Maybe he believes that while American banks need better regulations, America also needs a vibrant banking system and that, in a globalized economy, constraining American banks alone will only ensure that the world's largest global financial institutions will be British, German, Swiss and Chinese. He might understand that Larry Summers and Tim Geithner are smart people, who, in long careers in public service, got some things wrong, but also many things right.

Perhaps he understands that getting entitlement costs under control is, in fact, a crucial part of stabilizing our long-term fiscal situation and that you do need both tax increases and spending cuts - cuts, by the way, that are smaller than they appear because they all start from the 2010 budget, which was boosted by the stimulus.

Is all this dangerous weakness, incoherence, appeasement? Or is it just common sense?

For more on this you can read my column in this week's "Time" magazine or at Time.com. Let's get started.

(BEGIN VIDEOTAPE)

ZAKARIA: Joining me now to talk about Wall Street's wild week, what it means or doesn't mean, and what may lay behind it and what lays - lies ahead of us, two of the world's top economists.

Paul Krugman won the 2008 Nobel Prize in Economics, and he is a columnist for "The New York Times." Kenneth Rogoff is a former chief economist at the International Monetary Fund, now a professor of economics at Harvard University. Welcome to you both.

Paul, let me start with you. The one thing we saw over the week was markets up, markets down, but the one trend that seemed persistent was there is a great demand for U.S. treasuries despite the fact that the S&P downgraded it.

You've been talking a lot about this. Explain in your view what does it mean that in moments like this U.S. treasuries are still in demand and what that does is push interest rates even lower than they are.

PAUL KRUGMAN, COLUMNIST, NEW YORK TIMES: Well, what it tells you is that the investors, the market, are not at all afraid of what the - if you like, the policy elite or people like Standard & Poor's are telling them they should be afraid of.

You know, we - we've got all of Washington, all of Brussels, all of Frankfurt saying debt deficits, this is the big problem. And what we actually have in reality is markets are terrified of prolonged stagnation, maybe another recession. They still see government debt as - U.S. government debt, at any rate - as the safest thing out there, and are saying, if - if this was a reaction of the S&P downgrade, it was the market's saying, you know, we're afraid that that downgrade is going to lead to even more contractionary policy, more austerity, pushing us deeper into the hole.

So it's - it's a - you know, it's a reality test, right? So we just - just had a wake-up call that said, hey, you guys have been worrying about the entirely wrong things. The really scary thing here is the prospect of what amounts to a - a somewhat reduced version of the Great Depression in - in the Western world.

ZAKARIA: Ken Rogoff, worrying about the wrong thing?

KEN ROGOFF, FORMER CHIEF ECONOMIST, INTERNATIONAL MONETARY FUND: Well, I think the downgrade was well justified. It's a very volatile world. And the reason there's still a demand for treasuries is they've been downgraded a little bit to AA plus. That looks pretty good compared to a lot of the other options right now.

It's a very, very difficult time for investors. There is a financial panic going on at some level. Some of it's adjusting to a lower growth expectations, maybe a third of what we're seeing. Two- thirds of it is the idea no one's home - not in Europe, not in the United States. There's no leadership. And I really think that's what's driving the panic.

ZAKARIA: But you wrote in an article of yours that you think that this is part of actually a broader phenomenon which is that people are realizing this is not a classic recession, this is not a classic cyclical downturn. This is what you call a great contraction. Explain what you mean by that.

ROGOFF: Well, recessions we have periodically since World War II, but we haven't really had a financial crisis as we're having now. And Carmen Reinhart and I think of this as a great contraction, the second one, the first being the Great Depression, where it's not just unemployment, it's not just output, but it's also credit, housing and a lot of other things which are contracting. These things last much longer because of the debt overhang that we started with. After a typical recession, you come galloping out. Six months after it ended, you're back to where you started. Another six or 12 months, you're back to trend.

If you look at a contraction, one of these post-financial crisis events, it can take up to four or five years just to get back to where you started. So people are talking about a double dip, a second recession. We never left the first one.

ZAKARIA: So, Paul Krugman, what the implication of what Ken Rogoff is saying is spending large amounts of money on stimulus programs is not going to be the answer because, until the debt overhang works its way off, you're not going to get back to trend growth. So, in that circumstance, you'll be wasting the money. Is that - is -

KRUGMAN: No, that's not at all what it implies. At least not - not - I think my analytical framework, the way I think about this, is not very different from Ken's. At least I certainly believed from day one of this slump that it was going to be something very different from one of your standard V-shaped, you know, down and up recessions, that it was going to last a long time.

One of the things we can do, at least a partial answer, is in fact to have institutions that are able to issue debt - namely the government - do so and sustain spending and, among other things, by maintaining employment, by maintaining income, you make it easier for the private sector to work down that overhang of debt.

ZAKARIA: Ken, are you in favor of a - a second or a significant additional stimulus in the way that I think Paul Krugman is?

ROGOFF: No. I - I think that's where we part ways on this. I mean, I think that creates a - a debt overhang in the terms of future taxes that is not a magic bullet because it's not a typical recession. I do think, if we used our credit to help facilitate one of these plans to bring down the mortgage debt in this targeted way, and it could involve a significant amount, that I would definitely consider. I mean, that's how - that's how I would do it.

Now, obviously, you know, things go from bad to worse, then you start taking out more and more things from the tool kit, but I would start with targeting the mortgages, then higher inflation, try to do some structural reforms and, of course, you know, if things are still going badly, I'm open to more ideas.

ZAKARIA: Paul -

KRUGMAN: Can I just break in?

ZAKARIA: Yes. Yes.

KRUGMAN: I would say things - things have already gone from bad to worse. I mean, this is a terrible, terrible situation out there. You know, we - we talk about it, we look at GDP, whatever. We have nine percent unemployment and, more to the point, we have long-term unemployment at levels not seen since the Great Depression. Just an incredible - incredibly large number of people trapped in basically permanent unemployment.

This is something that desperately needs addressing. And I would be saying we should not be trying one tool after another from the tool kit a little bit at a time. At this point, we really want to be throwing everything we can get mobilized at it.

I - I don't - I don't think fiscal stimulus is - is a magic bullet. I'm not sure that inflation is a magic bullet in the sense that it's kind of hard to get, unless you're doing a bunch of other things. So we - we should be trying all of these things.

And, you know, what - how did the Great Depression end? How did - how did that end? It ended, actually, of course, with World War II, but that - which was a massive fiscal expansion, but also involved a substantial amount of inflation, which eroded the debt. What we need - hopefully we don't need a world war to get there, but we need - we need this kind of all-out effort which we're not going to get (ph) -

ZAKARIA: We're going to have to take a break. When we come back, we'll ask what exactly should the worries about the deficit be? Is - is that something to be taken seriously at all? When we come back.

(END VIDEOTAPE)

(COMMERCIAL BREAK)

(BEGIN VIDEOTAPE)

ZAKARIA: And we are back with Paul Krugman and Paul Rogoff, talking about the economy, the markets and everything else.

Paul Krugman, before we took a break, you talked about the solution to getting us out of this crisis, and you compared it to the '30s and pointed out that World War II got us out of the Depression. This was a massive stimulus, massive fiscal expansion. But aren't we in a different world?

We are, right now, the United States, at 10 percent of budget - budget deficit, 10 percent of GDP, which is the second highest in the industrial world. In two years we'll - our debt-to-GDP ratio goes to 100 percent. That strikes me as a situation which there's got to - presumably there is some upper limit. You can't just keep spending money and incur these larger and larger debt loads.

KRUGMAN: Oh, I don't get us to - I think those numbers are a bit high, about the - about the deficit, a couple - the debt levels a couple years out. It takes longer than that.

But the main thing to say is, look, think about the costs versus benefits right now. Basically, the U.S. government can borrow money and repay in constant dollars less than it borrowed. Are we really saying that there are no projects that the federal government can undertake that have an even slightly positive rate of return? Especially when you bear in mind that many of the workers and resources that you employ on those projects would be otherwise be unemployed.

The world wants to buy U.S. bonds. Let's - let's supply some more, and let's use those bonds to do something useful which might, among other things, help to get us out of this terrible, terrible slump.

ZAKARIA: Ken Rogoff?

ROGOFF: Well, I think you have to be careful about assuming that these low interest rates are going to last indefinitely. They were very low for subprime mortgage borrowers a few years ago. Interest rates can turn like the weather.

But I - I also question how much just untargeted stimulus would really work. Infrastructure spending, if well spent, that's great. I'm all for that. I'd borrow for that, assuming we're not paying Boston Big Dig kind of prices for the infrastructure.

ZAKARIA: But, even if you were, wouldn't John Maynard Keynes say that if you could employ people to dig a ditch and then fill it up again, that's fine. They're being productively employed, they pay taxes, so maybe the big - maybe Boston's Big Dig was - was just fine after all?

KRUGMAN: Think about World War II, right? That was not - that was actually negative for social product spending, and yet it brought us out. I mean, partly because you want to put these things together, if we say, look, we could use some inflation. Ken and I are both saying that, which is of course anathema to a lot of people in - in Washington, but is in fact what the basic logic says.

It's very hard to get inflation in a depressed economy. But if you have a program of government spending plus an expansionary policy by the Fed, you could get that. So if you think about using all of these things together, you could accomplish, you know, a great deal.

I mean, if we - if we discovered that, you know, space aliens were planning to attack and we needed a - a massive buildup to counter the - the space alien threat, and really inflation and budget deficits took secondary place to that, this slump would be over in 18 months. And then if we discovered, oops, we made a mistake there aren't actually any space aliens -

(CROSSTALK)

ROGOFF: So we need Orson Wells is what you're say?

KRUGMAN: No. That's a - that's a - there was a "Twilight Zone" episode like this, which scientists fake an alien threat in order to achieve world peace. Well, this time we don't need it - we need it in order to get some fiscal stimulus.

But, no. I mean, the point is -

ZAKARIA: But Ken - but Ken wouldn't agree with that, right? The space aliens wouldn't work -

ROGOFF: It's not so clear that -

ZAKARIA: Go ahead (ph).

ROGOFF: I think it's not so clear that Keynes was right. I mean, there have been decades and decades of debate about that, about whether digging ditches is such a good idea. And my read of the debate is when the government does really useful things and spends the money in useful ways, it's a good idea. But when it just dig ditches and fills them in, it's not productive and leaves you with debt.

I don't - I don't think that's such a no-brainer. There are people going around saying, oh, Keynes was right. Everything Keynes said was right. I think this is a different animal, with this debt overhang that you need to think about from the standard Keynesian framework.

KRUGMAN: I - I guess I just don't agree. I mean, I think the - the debt overhang - but that was an issue in the '30s, too, private sector debt overhang. We came into this with higher public debt than I would have liked, right? We're really, in some ways, paying the cost to the Bush tax cuts and the Bush unfunded wars, which leave us with a - a higher starting point of debt.

But - but, you know, the - the thing that drives me crazy about this debate, if I can say, is that we have these hypothetical risks. All those hypothetical things are leaving us doing nothing about the actual thing that's happening, which is mass unemployment, mass waste of human resources, mass waste of - of physical resources.

This is - you know, what's happening is we - we are hemorrhaging economic possibilities and also destroying a lot of lives by letting this thing drift on. And we're inventing these - you know, sometimes ghosts are real, I guess, but we're inventing these phantom threats to keep us from - from acting.

ZAKARIA: Do you - do you think that the lesson from history, Ken, in terms of these kind of great contractions - because other countries have had - we - we have not had something like this since the 1930s, but there have been other examples. It tells you that until you get these debt levels down, no matter what the government does, it's not going to get you back to robust growth?

ROGOFF: I do, because what happens as you're growing slowly, the debt problems start blowing up on you. That's happening very dramatically in Europe. They had a - a philosophy and approach of things are going to get much better. this is an ordinary but big recession. If we can just hang on, we're going to grow really fast, the debt problems will go away.

Well, guess what? They're not growing fast enough. The debt problems are - are imploding. That's slowing growth, and it's a self- feeding cycle.

KRUGMAN: I guess I'm - I'm a little puzzled here because, again, the thing that's holding us back right now in the United States, although there are - there are those peripheral European countries that are having a - a very different kind of problem, partly because they don't have their own currencies.

But, in the United States, what's holding us back is private sector debt. And, yes, we - we're not going to have a self sustaining recovery unless that private sector debt could be brought down (ph).

ZAKARIA: Just to be clear, Paul, what you mean by that is individuals have a lot of debt on their - on their balance sheets?

KRUGMAN: Yes. That's what's holding us back, and we do need to bring that down, at least bring it down relative to incomes. So what you need to do is you need to have policies to make incomes grow. You need - and that can include government spending, which is going to add to - to public debt, but it's going to reduce the burden of private debt. It can include inflationary policies, and it can include - and it include deliberate forgiveness.

The idea that - that this has all faded, that we cannot do anything to grow because we have to wait for some natural process to bring that - that debt down, that - that doesn't follow from the analysis. It's - it is the - there is a huge overhang of debt, which is the - at least as I see it, exactly the reason why we need very activist government policies.

ZAKARIA: Ken Rogoff, the last word?

ROGOFF: I do think that the debt of the government, of course it's important. The social security, concerns over future medical spending. A lot of businesses are - and - and people who could invest, could hire people are worried of where the government's going, where taxes are going, what's going to happen to their savings. So I don't think -

KRUGMAN: There's not a hint of that in the data.

ROGOFF: I don't think it's such a - well, not a hint of that? People aren't hiring, and - and there - there's a lot of surveys and -

KRUGMAN: Because they can't sell.

ROGOFF: -- and such showing people (ph).

Yes, but I mean - I mean, interest rates are always low before a crisis. You can't necessarily say that that tells you it's not going to happen.

KRUGMAN: I'm - I guess I'm still in this position of saying that - that things that we have no evidence for, that are supposed to be dangerous, are being - you're blaming it - lots of people are blaming them for something which is - looks to me like straightforward there isn't enough spending in the economy. ROGOFF: We have - we have centuries of examples.

KRUGMAN: Not - I don't read that history the same way.

ZAKARIA: All right. We're going to have to leave it at that.

Paul Krugman, Ken Rogoff we'll have you back very soon to see which way the wind is blowing one of these weeks (ph). Thank you.

We'll be right back.

(END VIDEOTAPE)

(COMMERCIAL BREAK)

ZAKARIA: Now for our "What in the World?" segment. What struck me this past week was China's reaction to our credit downgrade. Its state-run media thundered that America needed to cure its addiction to debt.

A Hong Kong newspaper widely read on the mainland ran this front page, with a banner saying "The American Dream Is Over." It went on to report that Washington owes every single Chinese citizen about 5,700 yuan, about $900. Another editorial said Washington's solution to its debt time bomb was to make the fuse just one inch longer.

That kind of commentary has hit a nerve with the Chinese people. After a drop in Shanghai's stock market, bloggers took to local social media sites. One wrote, "The U.S. suffered a downgrade. Why did we become the biggest victim?" Another said, "It was a huge mistake to buy U.S. bonds with Chinese taxpayer money. We must hold those who are involved responsible."

Here in the U.S., you hear many people worry that the Chinese government might stop buying American T-bills. I think these fears are vastly overblown. The economic situation between China and the United States is the financial version of mutually assured destruction, that Cold War doctrine of nuclear deterrence, if you destroy me, I end up destroying you.

Let me explain. Let's start with the facts.

China is indeed America's biggest foreign lender. It owns about $1.2 trillion of debt, more than Japan, the U.K. and Brazil. A little known fact is that most of America's debt - $14.3 trillion and counting - is actually owned by Americans in social security trusts, pension funds and by the Federal Reserve. But it is the marginal buyer that matters, so China is very important.

Now, imagine that China were to sell off those $1.2 trillion of U.S. Treasury bonds, or even a substantial portion of them. It's a huge hypothetical, but let's play out the disastrous chain of events that would happen if China began to divest.

It would trigger panic selling of the dollar. That would, in turn, hurt the U.S. economy, which is China's number one export market. Not a good idea if you are the Beijing government trying to keep your workers occupied in factories across China, producing goods that Americans are going to buy.

You see, China is addicted to a strategy of export-led growth, which requires that it keep its goods cheap, which means keeping its currency undervalued, which means buying U.S. dollars.

But could China slow the purchase of - of American debt, even if it doesn't stop it altogether? Yes, but, even here, it has fewer options than people think. As China's export growth continues, it will have to keep adding to its foreign reserves, which are now $3.2 trillion.

So where can it park that money? Does it want to invest in Japanese debt and make the yen a reserve currency? Anyone who understands the deep animosity between China and Japan will see that this is unlikely.

Euro denominated assets are a possibility, though there's not really something such as a European treasury bill. But, even then, do you really want to put all your eggs in the euro basket when the future of the currency itself looks shaky, much more shaky than it did six months ago? Can you be confident that the euro will be around 15 years from now?

As for British pounds, Swiss francs, you can buy those, but just not in the vast quantities that China needs given the cash it generates. And, of course, if China were to stop buying treasuries, remember the value of the Yuan would rise. Chinese exports would become more expensive. Employment in China would fall.

So, at the very moment, China's bloggers and state-run media were blasting the U.S. government. Guess what Beijing was doing? It was buying U.S. treasuries. The reality is that China is trapped in a cycle of buying our T bonds. No matter what any ratings agency says, no other bond market is as big or as safe for China.

So ignore all those theories about China doing America a huge favor. The reality is they have nowhere else to go. We're probably doing them a favor.

And by the way, in terms of who is paying whom, data from the Congressional Budget Office shows that the U.S. pays out some $74 million to China in interest payments on debt every day. That means Washington is paying Beijing $833 every second.

And we'll be right back.

(BEGIN VIDEO CLIP)

AHMED RASHID, AUTHOR, "DESCENT TO CHAOS": I think what we've seen in the last couple of months since the killing of Osama Bin Laden, we've seen a real meltdown.

(END VIDEO CLIP)

(COMMERCIAL BREAK)

CANDY CROWLEY, CNN SENIOR POLITICAL CORRESPONDENT: Now time for a check of today's top stories.

Just hours after a disappointing finish in the Iowa Straw Poll, former Minnesota Governor Tim Pawlenty is dropping out of the Republican presidential race. Pawlenty made the announcement this morning.

(BEGIN VIDEO CLIP)

TIM PAWLENTY (R), FORMER PRESIDENTIAL CANDIDATE: I'm announcing this morning on your show that I'm going to be ending my campaign for president. I wish it would have been different. But, obviously, the pathway forward for me doesn't really exist. And so we're going to end the campaign.

(END VIDEO CLIP)

CROWLEY: Pawlenty poured over a millions dollars into the Straw Poll. He finished a distant third place behind Michele Bachmann and Ron Paul.

At least four people are dead and 40 others injured after scaffolding around a stage at Indiana State Fair collapsed last night. Witnesses attending a concert say a powerful gust of wind blew through just before the incident. Authorities say there may be more casualties.

And two men are charged with murder in the hit-and-run deaths of three men during riots in London last week. Witnesses say the victims were mowed down by a car while trying to protect businesses in the City of Birmingham from looters.

And those are your top stories. Now back to FAREED ZAKARIA GPS.

(BEGIN VIDEOTAPE)

ZAKARIA: The United States will soon begin its drawdown from Afghanistan. And as that happens, greater and greater attention will be focused on next-door neighbor Pakistan. That is where much of what remains of al Qaeda's leadership lives. And it is, of course, a nuclear nation that is in terrible turmoil, filled with bombings, assassinations and what often seems like just chaos.

To talk about it all, I'm joined by the finest journalist writing in Pakistan today, Ahmed Rashid.

Ahmed, the latest news out of Peshawar, this female suicide bomber wearing a veil detonates herself. Even for Pakistan this is unusual.

RASHID: This is very unusual. We've had one or two female suicide bombers, but they've been Chechens or central agents. This is the first time that I know of a Pakistani woman, a young woman becoming as - and becoming a suicide bomber in the center of Peshawar. I mean, one of the largest cities in the country.

So, you know, this is very much a new development.

ZAKARIA: Do you look at what's going on right now and - and feel as though there is some kind of system in place to deal with this rising militancy? Is the army now finally mobilized? Is the political class mobilized?

RASHID: I think, Fareed, on the country I think what we've seen in the last couple of months since the killing of Osama Bin Laden, we've seen a real meltdown. The army has felt humiliated, embarrassed and demoralized to some extent. The politicians have kind of abandoned the scene and told the army, you sort it out, this is not our problem.

There's a huge rift between the government and the army and the Americans. And that is, of course, affecting economic confidence, because we have no deal with the IMF nor the World Bank or any of the usual big donors who should be giving money or pledging some kind of funding to Pakistan at this stage.

So there are a whole raft of issues that have arisen which are worrying people enormously.

ZAKARIA: Let's talk about the rift between Pakistan and the U.S. Of course, you know, some of it, the most recent bout of it stems from the Osama Bin Laden shootings. What is - what is the civilian government doing? What is the army doing?

RASHID: Well, you know, first of all, this has been building up for quite some time. But the real sort of icing on the cake has been the death of Osama Bin Laden, because that is an operation carried out I think largely without Pakistani knowledge or involvement.

And the army did feel very embarrassed and humiliated. And that, of course, has created this wave of anti-Americanism, both in the public and in the army and has forced General Kayani, the Army Chief, to also show a very hard line towards the Americans. And at the moment we have a complete breakdown.

Now, in the midst of this, President Zardari has kind of abandoned the stage. We haven't seen any leadership by Zardari. For example, since Bin Laden's death, he's not made a single statement on terrorism or anything like that.

ZAKARIA: And would it be fair to say that because of this rift in relations, the Pakistani Military is not pursuing the kind of militants, the Haqqani Faction, you know, those militants who kill Afghans and American troops and coalition troops?

RASHID: Well, it certainly is not going to pursue it right now with this complete rift between the Pak military and the American military. And - I mean, they're barely on talking terms.

ZAKARIA: How do we get out of this? How do we get back to some kind of working relationship? RASHID: Well, I think - I think the real problem - I mean, there's a huge problem here, too. And I think, you know, that problem is that there doesn't seem to be a central figure. Since the death of Richard Holbrooke, who will deal with Pakistan, you know? You've got Admiral Mullen, the Chairman of the Joint Chiefs, who has been very upfront in dealing with Pakistan. But, you know, you need a senior member of the White House or the State Department to be running the policy.

And, unfortunately, it appears from - from Pakistan's side that the people running the policy here at the CIA and the Military. And there's no political strategy from the American side and there's no political equivalent of Holbrooke or, you know, with the Secretary of State or the Deputy Secretary of State or somebody, you know, get involved in talking to the Pakistanis.

ZAKARIA: So while all this is going on, the militancy in Pakistan, the fundamentalism, the jihadist seem to be thriving as the suicide bombing suggests?

RASHID: Yes, absolutely. I mean, remember right off Bin Laden's death, we had this attack on the Naval Base in Karachi in which two huge aircrafts were destroyed. That, too, was extremely embarrassing and humiliating for the military.

And secondly, you know, if this whole - you know, how are we going to turn around this huge wave of anti-Westernism, anti- Americanism in an army which for the last 60 years has been totally dependent on the Americans for arms, for weapons, for aid, you know, something like $20 billion has been given in the last 10 years by the Americans, a lot of it to the military for conducting operations against the Pakistani Taliban and the - and the extremists on the border.

Now, who's going to pay for these operations? I mean, are we in a position to pay for, you know, a billion dollars operation over three months to chase Pakistani Taliban? I don't think we're in a position to pay for that kind of operation.

So that is going to mean the operations will be reduced. There will be increasing use of air power, less use of - of manpower, and the extremists are going to be taking advantage of this.

ZAKARIA: So in a strange sense, Pakistan may be getting a whole lot more unstable.

RASHID: Well, I think, you know, what is really urgently needed is for the U.S.-Pakistan relationship to return in some shape or form as quickly as possible, and cooperation between the CIA and the Military and at the political level to resume. And if - you know, at the moment right now we've got a very hostile American Congress who are very anti-Pakistan.

You know, that has to be turned around. That can only be turned around if the relationship between the Obama administration and the Pakistan government improve. ZAKARIA: Ahmed Rashid, thank you. Fascinating, somewhat depressing conversation. Thank you.

And we will be back.

(END VIDEOTAPE)

(COMMERCIAL BREAK)

(BEGIN VIDEOTAPE)

ZAKARIA: Welcome back.

This past week, the world watched London burn. Rioters set fire to buildings, smashed high street shop windows and looted everything from TVs to toothpaste. How did that happen in Britain and why?

Joining me now, we have two British writers and thinkers who can help us understand. David Goodhart is the editor at large of "Prospect" magazine, which he founded. He joins us from London.

And all the way from Brasilia, we have the British writer, Theodore Dalrymple, who worked as a prison psychiatrist for many years in London and wrote about it.

David, let me start with you. There is something for most of us a kind of - a sense of cognitive dissonance. When we think of the British, we think of people queuing and afternoon tea and things like that.

And, of course, there is another side to Britain. When I was young there were the Brixton riots and all that kind of thing. But what is going on? Why is this happening in Britain right now?

DAVID GOODHART, FOUNDER & EDITOR-AT-LARGE, PROSPECT MAGAZINE: Well, it may just have been a kind of one-off moment of mayhem. It may be a lot more serious than that. We may now start to see this on a regular basis. I mean, we clearly do - we've known for a long time, we have a lot of - we have a lot of deep problems in our inner cities. The economic boom over the last 10 or 15 years has partly covered that up.

But there's a whole culture of nihilism amongst a hardcore of people in the inner city. A lot of it comes from the black, hip-hop and rap culture, which is picked up by a lot of white kids as well. This idea that you cannot make it in straight society, so violent transgression is really the only - the only thing to do.

ZAKARIA: Theodore, I saw a piece or an interview I think you did in the "Wall Street Journal," and you seem to feel that British policing or lack of policing, I suppose, is partly to blame.

THEODORE DALRYMPLE, FORMER PRISON PSYCHIATRIST: Yes. One of the things that these people will have learned is impunity. And our levels of punishment, our levels of detection are so low that actually the mystery as to why it doesn't happen more often, not why it happens at all.

I mean, the reason why people don't go burgling all the time, is I can only assume is that they can't do the arithmetic that allows them to calculate the odds of getting away with it, which are extremely high.

But if people feel they have nothing to fear and they are correct in that, almost - one can almost say the only people to fear the British Police now are the innocent, then - then this is the kind of thing that one could expect.

ZAKARIA: David, what do you - what do you think of that? Is that sort of - that Britain has gotten too soft and squishy toward criminals?

GOODHART: Well, there's something in that. Although actually crime - crime has fallen quite sharply in the last 20 years or so. I think this is - these people are the sort of bastard offspring of British liberalism in a way. We've had a political class center left and center right, which has been economically liberal and socially and culturally liberal now for the last 20 or 30 years. And I think the really interesting question is can that liberalism produce a kind of tough love.

ZAKARIA: And -- but Theodore Darlymple, you would say that the tough love should be a kind of traditional Tory police - of, you know, tough policing, correct?

DALRYMPLE: Well, I think that's one of the things that can be done. But I'm obviously one doesn't want a society in which the only reason people behave reasonably well is because a policeman will haul them off to prison the moment they do something wrong. And, in fact, that's probably not entirely practicable.

But what we must not also forget here is that the - these people grow out of a culture, and that culture is not confined to them. Every British town and city, every Friday and Saturday night is a scene of debauchery and potential violence and this is not an exaggeration. I see it in my own little town.

The only thing that the counsel can think of doing in the face of repeated vandalism by drunks at 2:00 in the morning is to extend the licensing hours to 4:00 in the morning. And if we cannot even deal with something like mass public drunkenness, which actually is very easy to deal with, if we can't deal with that, then we're not going to deal with more difficult social problems.

ZAKARIA: David, what about another cause that people look at? And I've seen some mention of a paper put out by the Center for Economic Research and Policy, which looks at austerity measures over the last 100 years and says that every time you have sharp cuts in government budgets, sharp cuts in social services, you see rioting and instability. I'm summarizing a very long paper, but that's the basic idea.

Do you think that the British budget cuts are in some way responsible for this rioting?

GOODHART: No, absolutely not. The truth is the cuts, such as they are, have not begun to bite yet. They're in their infancy. And, I mean, a lot of money has been spent on the inner city in the last 15 years. And in conditions there, both economically and in terms of education and in even a sense sort of socially and culturally are miles better than they were. And, I mean, you know, it's a great challenge. This is not - this is not a normal sort of policy issue that can be solved by policy wonks.

ZAKARIA: Theodore, finally, let me ask you, what David is suggesting is actually a remarkably conservative idea, that there are cultural roots to this - this violence. Is there a cultural solution to it then?

DALRYMPLE: Well, in the long term that's the only solution to it. So I agree with him wholeheartedly that it is a culture. But it's a culture that has actually come, I'm afraid from intellectuals.

ZAKARIA: So David, it's your fault.

GOODHEART: I don't think that's entirely true. I mean, I think, at least the sort of the black side of this - actually it's a - it has a perverted root in a genuine struggle for justice. And I think some of the - a lot of that - a lot of those struggles have been won.

But the kind of grievance has been preserved and I speak (ph) by kids who, you know, just don't know how lucky they are.

ZAKARIA: We'll have to leave it there. This is a fascinating conversation. I certainly hope it's a one-off, but we will have to see. Gentlemen, thank you very much. Very much appreciate the conversation.

DALRYMPLE: Thank you.

ZAKARIA: And we will be right back.

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ZAKARIA: This week the Dalai Lama stepped down as political leader of Tibet and a new prime minister of Tibet was sworn in.

That brings us to our question from the "GPS Challenge," which is what makes the new Tibetan Prime Minister Lobsang Sangay, different from other heads of state and the rest of the world? Is it, A) He's only nine years old; B) He's blind and deaf; C) He doesn't live in the country he runs; or D) He is believed to be a human manifestation of god?

Stay tuned and we'll tell you the correct answer. Make sure you go to CNN.com/GPS for 10 more questions. While you're there, check out our website, the Global Public Square. You'll find smart interviews and takes from some of our favorite experts. You will also find all our shows on there. So if you've missed one, you can watch it. Also, follow us on Twitter and Facebook.

The events in London this week reminded me of a book that explores thuggery in Britain, and it is our "Book of the Week." It's Bill Buford's "Among the Thugs." It's a fascinating examination of the soccer hooligans that plagued the nation 15 years ago. Britain successfully got that problem under control.

Can they fix the current problem? Read this beautifully written book for some insights.

Now, for "The Last Look," this week another installment in the ongoing adventures of our favorite superhero, Vladimir Putin. While most world leaders were drowning under multiple crises this week, Prime Minister Putin was breathing freely under the sea. He went diving in the ruins of the Ancient Greek City of Phanagoria.

When? With TV cameras rolling. Oh, my goodness, what is that? Amazing. He discovered these two ancient Greek urns. And with power comes privilege, apparently he got to keep them.

The correct answer to our "GPS Challenge" question was C, the new Tibetan prime minister doesn't live in Tibet. He's in exile and indeed has never even set foot in the country he's prime minister of. His office is in Dharamsala, India. Go to our website for more.

Thanks to all of you for being part of my program this week. I will see you next week. Stay tuned for "RELIABLE SOURCES."