The Dude, Don and the dollar

Diplomacy, Trump style

In an increasingly fractured world there are still some things that unit the most disparate countries. In recent years a trader, named ‘the Dude’, has popped up in Turkey’s financial markets. ‘The Dude’ has been known to trade in huge volumes, on occasions boosting the average volume of the Istanbul Exchange by up to 10%.

He came to mind last week after I read William Cohan’s fascinating article in Vanity Fair where he detailed a range of enormous trades in the S&P futures market that appear to have taken place just before market moving tweets from the US President. Regular market participants have been left flummoxed by the size and prescience of these trades, and it is to be hoped that the market regulator will get to the bottom of the matter. However, one cannot help pondering the identity of these ‘Dude’ like traders.

Beyond trading, there is oddly, much ore that unites Turkey and the USA. Turkey has become the graveyard of US diplomacy as the sanctioning of the Turkish army’s incursion into northern Syria by President Trump arks the end of the moral, democratic and military backstop that American has extended to the rest of the world for the past seventy years.

That Mikes Pence and Pompeo have only managed to agree a stay of execution for the Kurds illustrates the atrophying in American power, and the schoolboy-ish letter that President Trump sent to his Turkish counterpart makes matters even worse.  

Economically, Turkey has two interrelated lessons for the USA and the rest of the world. First, Turkey is a salient tale in the rise and fall of nations. Since the early 2000’s when Kemal Dervis had righted the banking system and the prospect of membership of the EU was dangled in front of it, Turkey made great progress. Lately this has come to a halt as policy making, the quality of institutions and the rule of law have been degraded.

It leads me to think of Edward Gibbon’s ‘A History of the Decline and Fall of the Roman Empire.’ Gibbon, who sought to explain why the Roman Empire disintegrated believed that Rome became complacent, institutions weakened and the leaders in Roman public life lost their sense of civic virtue (or what Machiavelli later simply called ‘virtu’ – the good of the republic or common good).

The importance of institutional quality and the need for a sense of civic ethic is evident in other books that track the rise and fall of nations such as Acemoglu and Robinson’s ‘Why Nation’s Fail?’.

Acemoglu, like Dani Rodrik, is one of the leading economists in the world, and Turkish. Both of them I am sure, lament the direction that their country has taken, and both would have clear policy answers to set it back on course. Both are based in Boston, and it is hard not to think that their work (Acemoglu and Robinson have a new book out, ‘The Narrow Corridor’), as well of course as that of Gibbon, deserves reading in Washington.

It might also be more widely read on Wall Street, because as Turkey again shows, political risk is becoming a greater force in markets. Typically, and doubly so in the age of quantitative easing (QE), political and geopolitical risk have not played a significant role in developed economy markets.  The behavior of the Turkish lira, its debt and equity markets in the past three years suggests that for emerging markets at least, political risk is now a dominant market factor.

The case of Brexit and sterling suggest that developed markets are not immune. The perplexing issue however, is how investors (at least those who, to go back to William Cohan’s article, do not have premonitions of market turning tweets) can react to heightened policy uncertainty.

The puzzle is deepened by the fact that number of measures of policy uncertainty are at all time highs, while volatility is close to its historic lows. Indeed, for most investors the political risk they are most concerned about is the prospect of an Elizabeth Warren Presidency, which whilst arguably good for American institutions could be tough on corporate profits and taxes.

Back to the current incumbent of the White House, who is attacking his country’s central bank and institutions with nearly the same vigour that Mr Erdogan is employing in Turkey.

The reason that the dollar is not as volatile as the lira is that it is the reserve currency in a reasonably healthy economy in a world where most other large economies are weak. For dollar based investors however, dollar strength is a good opportunity to diversify, especially for those who think that the ‘American empire’ has peaked. In the shorter term, hedges such as gold and equity volatility, are beginning to look more attractive. If the ‘Dude’ sized trader in the S&P futures market is found out, they may be doubly interesting.  

Have a great week ahead,

Mike

Hamilton would have a plan for Brexit

Neither Leave nor Remain, but go forward

This article is published by the excellent UnHerd.com, https://unherd.com/2019/10/alexander-hamilton-rap-star-nation-builder/

The fracturing of the world order by events such as Brexit, and the growing consensus that we ‘live in interesting times’ mean that today is a busy and stimulating time for those who enjoy drawing historical comparisons with the present.

One particular strand is the manner in which some have drawn upon America’s Revolution as philosophical support for Britain taking back control from Europe. Others have gone further. The former Tory minister and now Brexit Party MEP Ann Widdicombe, in her maiden European Parliament speech cast Brexit as ‘oppressed people rising against oppressors, colonies rising against empires‘.

The idea that Britain is emasculated by Brussels in the way a colonial vassal state might be is scarcely believable, especially so when heard from Dublin, Belfast, Edinburgh and likely much of the Commonwealth. Breaking free from Brussels will not solve the many issues facing Britain, but it may eventually crystalize a serious debate on the future.

When this happens, the example of the Founding Fathers, and especially one of their leading lights Alexander Hamilton, will be worth delving into. From this point, Britons can choose between the purgatory of Brexit or alternatively they can agree that a long period of rebuilding is called for. If this is the case, Alexander Hamilton is very much the man to listen to.

Hamilton was a man of many achievements – a talented military officer and aide to George Washington, a driver and interpreter (through the Federalist Papers) of the US Constitution and the first Secretary of the Treasury, to list just a few accomplishments.

Today, interest in Hamilton has undergone a revival, thanks in part to the musical bearing his name, even if it does not reflect all of his achievements. Hamilton stands out as someone who planned, established, and built many of the important institutions of the United States.

He had a hand in the creation of its currency framework; in the foundation of the Treasury, a prototype central bank (the Bank of the United States), the Coast Guard, and West Point; and in the structuring of the army. He was also a mastermind of American foreign policy and its trade relationship with Britain.

He was also one of the lead authors of the Federalist Papers, the collection of essays that sought to clarify, strengthen, and promote the US Constitution. Few men or women have had as enduring an impact on their nation. Brexit would be easy if its proponents had the foresight to create their own ‘Federalist Papers’, or ‘Brexit Papers’.

In my view, the many achievements of Hamilton make him shorthand for the establishment of the institutions, laws, and skill sets needed for countries and regions to be able to thrive, in the sense of enjoying durable economic growth, high human development, and a stable public life. All of these factors are on the wane in Britain and the wider world today and need to be revived.

In the last chapter of ‘The Levelling’ called ‘The Hamilton Project’ I ask a notional Hamilton what advice he would give to the EU, the US and China in order that each prospers in the 21st century. For instance, he would advise the US to take the lead in crafting the laws and frameworks needed to marshal new technologies like gene editing and cyberwarfare.

In that context, there are a number of things that Britain can learn from Hamilton, notably the way he conducted politics and the way he thought about nation-states and government.

To start with the conduct of public life, and mindful of the consequences of the Johnson government’s approach to politics, the nascent democracy within which Hamilton acted was a noisy, nasty and chaotic as the Brexit climate is today. Hamilton’s enemies used the press ruthlessly against him. For his part he was careful that the will of the people be channeled by institutions and laws, and that ‘fake’ views of his policies be rebutted.

He was diligent in seeking out political opponents and seeking to convince them of his views. The conciliatory and relatively open way Hamilton and others built a consensus over the Constitutional Convention is a model for relations across the British political spectrum, as well as relations between London and Brussels, should be handled.

That they are not is in part a question of leadership, and the quality of this particular political generation. Hamilton and the Founding Fathers are the benchmark for political classes worldwide in terms of their vision, comportment and the durability of their policies.

In time, it may be that Brexit catalyses a new generation of politicians and potentially parties and that this ‘next generation’ is the one to shape what ‘Global Britain’ becomes.

Here, Hamilton would also be a useful guide. He might set the scene by counselling that, as the trade war between the US and China is showing, a globalized world is ceding to a multipolar one where Britain will simply be a mid-sized power like South Korea and Australia.

The notion of Global Britain will need to be conceived in the context of this reality, with implications for corporate governance, tax laws, the legal system and the City. It may also mean that Global Britain is founded on a meaningful security and defence agreement between the UK and the EU.

Hamilton would then focus on at least two other areas – both at the centre of the Brexit vote. One is low, poorly distributed economic growth and the other is immigration.

Trend economic growth in the UK as proxied by productivity has slowed dramatically and has become too financialized in the sense that it has increasingly relied on the accumulation of debt and priming by central banks to keep it going. The distraction of Brexit has meant that there has been too little attention paid to the rattling engine room of the economy. It has been hollowed out by austerity and the labour market has changed radically for the worse in terms of the way workers have exchanged flexibility for security.

What debate there has been so far has focused on redistributive measures, a difficult policy to execute ahead of a likely world recession. What is much more important is to rediscover the source of high, organic economic growth.

The secret sauce of ‘growth’ lies in many of the things Hamilton developed and that equally Britain is well known for – education, good institutions and laws. If he were with us today, Hamilton would lay out a plan to boost human development (education, longevity, mental health and equality), and to harness the parts of ‘intangible infrastructure’ (e.g. education, socially friendly use of technology, rule of law) that Britain is good at.

Then given the uncertainty, animosity and opportunity afforded by Brexit, Hamilton might propose a very clear contract on immigration. The aim of this would be to lay out the conditions that immigrants are welcomed into Britain, the help given to them to settle, assimilate and find work, their rights in the UK and a framework that would ensure they are respected and integrated into British society.

Given his aptitude for the infrastructure of state, Hamilton could not neglect Scotland and Northern Ireland. He would recommend a Marshall style fund to help reshape Northern Ireland’s economy and society, with the implementation of this to be carried out by countries like Sweden and Switzerland who excel in public policy. For Scotland Hamilton’s work on currencies and state banks will come in handy as independence becomes a reality.

Much if not all of the media is obsessed with the very short-term drama, and to an extent who could blame them such is the entertainment value. However, attention needs to be drawn to the deeper issues facing Britain and the potential solutions to them if Britain is to truly prosper and be at peace with itself after Brexit. Sometimes, history and historical figures can anchor and steer these debates. I would urge Britons to look beyond usual historical references like Churchill to Alexander Hamilton. He embodies the idea of nation building.

His view would be that Brexit is simply a manifestation of decline and that this can be reversed by honestly locating Britain’s place in the emerging multipolar order of the 21st century, by developing a new ‘contract’ with immigrants and most importantly by rediscovering the sources of organic economic growth.

@Donthe Robber

Watch out

Donald Trump’s reneging of the Kurds in northern Syria, his cynical treatment of Ukraine and his weak ambivalence on the Hong Kong protest movement may fit the pattern of his usual behavior, but to those outside the US these developments cut away the moral, military and diplomatic backstops that the US has provided to rest of the world for the last seventy years.

These acts pull up the drawbridge on the old liberal order, and now set in motion a fragmenting world of ‘patriots’, as he might put it. Another four years will render this regression permanent, with many yet unseen, negative consequences.

While many Americans will be happy that President Trump is committing fewer resources to what are other people’s problems, they must also realize that the cost of this is the end to American exceptionalism – this will have long lasting implications for the dollar, US multinationals, the security of America and Americans, for American culture and even for basketball.

For those who care about these things there are several things that can be done.

To start, technocrats, former public servants or even ‘experts’ from the military, economic policy, diplomacy and human development led sectors like education, need to speak loudly and clearly about the damage being done to America’s credibility, its institutions and human capital. Jim Mattis for example, entirely missed the opportunity to do this with his recent book.

Then, moderate Republicans, who if they have a sliver of moral courage and an ounce of sense, must start to put the future of the US – at home and abroad – ahead of career expediency. As it stands, they are more supine than many of the emerging nation governments they disdain. The very least they can do is stop blocking the rule of law, and the cloaking of the transparency of government.

As this occurs, the President will fight back. His greatest talents are his ability as a gutter scrapper, and his instinct for how to caricature his opponent’s weaknesses. He flatters and bullies, belying his own foibles. What no Democrat, or Republican for that matter has done so far, is to match him in this respect. Some might feel it is beneath them but it is the only way to loosen his electoral base.

Whomever succeeds in taking on the President will need to show that @DontheRobber is robbing the future to prop up the scam that the present is ‘great’. Corporate tax cuts, an alarming rise in corporate and government debt and a fiscal deficit that is unusually large for an economy in expansion, have all boosted the economy in the past three years, to cripple it in the future.

Record levels of wealth inequality rob the public in general, and the next generation. Equally, a short-term focus on a damaging trade war is disturbing corporate investment and supply chains, while the lack of real investment in education will rob the economy of a key source of productivity. Blindness to the consequences of climate change will rob many of the President’s supporters of their livelihoods as we move into the 2020’s.

The trade agreement with China, yet to be finalized, is a fine case in point. It falls far short of the terms that had initially been proposed, doesn’t at all tackle the concerns corporate America had and leaves open too many points of uncertainty. To their credit, the Chinese have done very well here.

In politics, the modus operandi of the President and those who enable him is robbing public life of any vestige of civility and fraternity, and risking divisions that will carry through this century.

The sense that America, its social fabric and its economy, are being robbed is just one, clear way of encapsulating the consequences of current policy making from the White House. It is now breaking old conventions, alliances and economic relationships on a nearly daily basis, and the cost of this needs to be made tangibly clear to Americans, lest the country, like a real estate speculation gone wrong, is sold away to opportunists.

Have a great week ahead,

Mike

Open economics and hard decisions

Ada Smith would know what to do

Two related stories from the engine room of economics struck me this week. One was the underlining by members of the European Parliament of the lack of female representation on the ECB Governing Council and the other was the news that the Federal Reserve is broadening its hiring process to recruit more women and people with more ethnically diverse backgrounds, though disappointingly this initiative seems only to be focused only on research assistant roles.

Both stories tell us much about gender, diversity and decision making and the direction of the economics profession.

On gender, all of the research I have been involved in this area underlines a couple of themes, that good data on gender representation is still hard to get (my friend Richard Kersley’s ‘Gender 3000’ database is one of the leading datasets), and that better (gender) balanced teams and boards make better decisions (or is it that men only ones make more bad decisions?).

In that way it makes great sense for organizations and institutions to recruit women to professional roles, but these institutions also need to facilitate the upward progress of women. I have known many female colleagues who have suffered the tyranny of ‘flexi-time’ – working a four day week, suffering career ‘stigma’ for doing so, and ultimately having to work 20% harder.

As it concerns central banking specifically, there is a much broader question of diversity of thought. By the time a man or women, from any given nationality has made it through an economics PhD programme of a major US university (Handelsblatt carried a news item last week which showed that only 4 of the top 30 German speaking economists are employed in German universities), published in leading economics journals, gained a faculty place or worked in the Fed/IMF/World Bank system, they have become creatures of the system, increasingly losing the incentive and ability to question the status quo.

Very few have the courage to challenge orthodoxy. A good example was the address that Rajan Raghuram gave to the Jackson Hole Symposium in 2005 (‘Has financial development made the world riskier?’) where (as later outlined in his book ‘Faultlines’) he warned of the dangers posed by the mountain of derivatives that had been built upon the US housing market. The response to his speech was frosty to say the least, and for a time many leading economists castigated him (Larry Summers called him a Luddite).  

The tendency of major academic economics departments to ‘form’ economists is dangerous because the creation of group think in central banking has produced a habitual, backward looking approach to monetary policy that usually ends up producing asset price bubbles and economic imbalances (e.g. negative yields, broken banks).

One response to this is to call for ‘new economics’. A recent example is entrepreneur Nick Hanauer’s impassioned TED Talk on the need to change capitalism. While I have sympathy for this view, I do not think that we need new economic theories but rather a better mix of formal economic theory with other sciences, and generally a much greater focus on the science of decision making (the US military and many sports teams such as the leading teams in the Rugby World Cup are innovators here).

One avenue is to pursue much more of a ‘Santa Fe’ approach to economics (I am thinking of the Santa Fe Institute which fosters a cross disciplinary approach to policy and science problems). Within economics, economists and analysts may in the future be better served by taking more the approach of a sleuth than of an econometric modeler.

Specifically, they should employ a wider variety of skills, ferret out facts and use firsthand experience to better understand them, and be more wide-ranging in their choice of the factors they choose to study. For instance, anthropology and sociology can sometimes better help understand the behavior of bankers and markets than can finance theory. If the pendulum of the economics profession is swinging away from a modeling-based approach, better that it swings toward development economics, for instance, which very often requires a more granular appreciation of how policy formulation works in practice.

Development economics is also the field where can be studied the impact on economic growth of a relative change in the quality of institutions or in rule of law, simply by virtue of the fact that the potential incremental change in both variables is much larger in developing than developed countries. I

In more detail, the policies, actions, and actors that affect development in emerging nations are complex, both individually and in the ways they interact with each other. In the Trump/Brexit/ Macron age, politics and institutional quality are exerting a very significant role on markets and economies, and a multipronged, more bottom up approach may be required to open the black box of how policy decision making is undertaken, how it might be improved, and, as I discuss in The Levelling how politicians can make good use of it.

In that respect the ECB and Fed should focus on hiring more senior female experts, in areas like law, banking, psychology as well as those with experience working in large organisations. Christine Lagarde is both the exception and the role model here.

The last issue is decision making. Surely, with debt levels growing, human development levels receding and the climate warming, we need to better understand why policymakers are so prone to avoiding big decisions?

Have a great week ahead,

Mike