Dubai’s current situation shows us that we are quickly shifting from an inflationary toward a deflationary political world, says Peter Thiel, one with much less tolerance the second time around.

Question: How will Dubai’s $26 billion debt affect the rest of the world economy?

Peter Thiel: It’s still too early to know whether Dubai is a bit of a one off, or a start of a larger trend. What I think it is symptomatic of though is a trend toward a more deflationary politics. In inflationary political world, we believe that everybody is in the same boat and everybody needs to be bailed out because everybody could have been in the same boat, but for the grace of God.

In a deflationary world, we say that some people are good people and some people are bad people and we do not give the bad people more money whether they are Madoff, or people who lied on their sub prime mortgage applications. I think the trend has been from a relentlessly inflationary to a deflationary political regime where we no longer think of everybody being in the same boat, but we think of there being good people and bad people.

With respect to Dubai, the basic mistake people made was they assumed that it was all part of the United Arab Emirates. Everybody was in the same boat, Abu Dhabi had lots of money, and they would help Dubai out. In reality, Abu Dhabi was probably quite resentful of the shiny and glittering and fake city known as Dubai and when push came to shove didn't really want to give them more money. And I think that kind of emotional or political or social phenomenon is going to be much more widespread and the question that will come to the fore in the next few years is will Germany bail out Greece or Spain, or Italy, or Eastern Europe? Will the responsible people bailout those they deem to be less responsible? If General Motors goes bankrupt again, will it get a second bailout? Will there be a second bailout for the banks? Will there be a second stimulus bill? I think the answer to all of these things is, no.

So, if the crisis is not over, then if it comes back it will come back in a very different political form and it will be much less tolerant the second time around. Just to use the stimulus as one example. If the first stimulus worked, you don't need a second one. If the first stimulus did not work it's hard to see why a second one would work. Either way, it will be very hard to get a second stimulus. And so the view that we will just constantly stimulate will constantly bail people out I think is very misguided and I think it underestimates the degree to which we shifted from inflationary mindset that it's booms, bubbles, busts, we're all in the same boat, to a deflationary mindset of separating good people from bad people and punishing bad people. I personally think there is some truth to both stories, but I'm merely observed that we are relentlessly drifting towards a deflationary political world.

Recorded on December 7, 2009