Ever Stuck in the Great Lockdown

Ever Stuck

The encumbering of the supertanker MV Ever Given in the Suez Canal is the image of the week, or perhaps the year. It speaks to a world economy that has overgrown its natural infrastructure – a vessel greedily stacked with cargo that becomes so unwieldy that it is grounded by a puff of wind (high winds and a dust storm did for the Ever Given). It takes little imagination to think of problems like climate change and inequality taking the place of the tanker in the channel of the world order.

It is also an image that brings home the tangible elements of globalization – as I write 300 ships are stuck behind the Ever Given (at a cost of USD 400mn per hour), and their delayed passage through the Suez Canal will deprive people of vital goods, like toilet paper.

Besides demonstrating what a ‘house of cards’ globalization has become, the grounding of the ship echoes with other supply chain blockages – consider the deprivation of Parisians now that a supply of decent sausages, clotted cream and cheddar is cut off from the continent by Brexit (Marks and Spencer shelves are bare!) or the fact that the fortunes of the semiconductor industry are concentrated in a few hands, with chip shortages rippling through other industries (Volkswagen will produce 100,000 fewer cars because of chip shortages).

We could write off the various supply chain shortages, especially the unfortunate Ever Given, to a continuation of ‘2020’ style bad luck. Indeed, we might even blame COVID on supply chains as some analysts have traced the initial European human-to-human infections to Starnberg in Germany, where a local car parts supplier (Webasto) organized a training session with a Chinese colleague from its operation in Wuhan!

Before we shout ‘down with supply chains’, consider that they have proven both durable and complex over the course of the last year, having been stress tested by Donald Trump, tilted by the rise in new technologies (especially data management) and the ups and downs of the post COVID recovery.

The crisscrossing web of supply chains is the fabric of the global economy, but it is emerging from the COVID crisis in a different shape. Consider two of the themes I have referred to in recent weeks – the post COVID ‘Decameron’ effect (that new, good trends are born out of a pandemic driven economic crisis) and the ‘scramble for rare places’.

Take the scramble for rare places (and rare materials) first. This trend will place a premium on supply chains and could exacerbate blockages. To underline this – and indeed to emphasis that risk to China/US relations comes from a real war rather than a mere trade war under President Trump – twenty Chinese fighter jets (including four nuclear capable bombers) flew into Taiwanese airspace on Friday. Taiwan is the locus of the world’s semiconductor industry (one of the few technologies China has not mastered) and any disruption of it would lay bare supply chains.

It might also echo the work of Norman Angell, a Nobel Peace Prize winner in 1933 and author of ’The Great Illusion’(1909).He argued that the buildup of great navies risked a world war that this would not likely happen because international economies were so interdependent. The war did happen.

Tensions in the South China Sea emphasise how in the future supply chain rollout will be driven not only by economic imperatives, but also by the twin ideas of national security and strategic autonomy. The restriction of vaccine exports from Europe and India is a good example. Increasingly, new industrial capacity will be located in geopolitically friendly locations – Intel announced a USD 20bn investment last week in two new facilities in Arizona, additional capacity in Ireland and more contracts for partner firms in Taiwan and South Korea.

The other consideration is the ‘Decameron’ effect. Every major macro dislocation in the last two centuries – from the global financial crisis to the aftermath of the Great War, has been met with a variety of fiscal, monetary and institutional responses. This time should be no different and the ‘Great Lockdown’ (Harold James’ term) is being met by a barrage of fiscal activity (with monetary support), though undercut by a real absence of collaboration across counties.

The next phase in this will be an infrastructure plan announced by President Biden next week. The imperative here will be to upgrade infrastructure across the US – which lags other countries badly (airports, telecoms, fast trains for instance). The plan may also look to link the more closely with South America and Canada, such that it builds out the backbone of a regional infrastructure.

There are other budding infrastructure networks – such as a planned trade infrastructure between Israel and the UAE, a busier night train network across Europe and multiple plans for drone and air taxi networks give a glimpse of the future. If possible, we might also spare a few shovels for the Ever Given.

Have a great week ahead


Return of the Prodigal Economy

42,000 years ago the magnetic poles of the Earth reversed, causing a hugely destabilizing climate disaster. The event provoked a series of environmental shocks that today could only be captured by the most wildly imaginative Hollywood director – chaotic weather patterns, a smashing of the ozone layer, intimidatingly large ice sheets and ripping solar winds.

By analyzing the rings of New Zealand swamp kauri trees scientists have modelled some of the conditions and potential side-effects of this jolt to the Earth’s magnetic field (https://science.sciencemag.org/content/371/6531/811). For instance, Neanderthals and many large species were wiped out and humans would likely have sought shelter in caves.

Though this fascinating story tallies with my recent Mars focused missive, it maybe strangely, had me thinking about the bond market. In many ways, the bond market is the magnetic field of the financial system – when it is destabilised, other markets and broad economies suffer.

Its financial and economic power is legendary, so much so that when something happens in the bond market commentators dust off quotes about ‘bond vigilantes’ or James Carville’s (political adviser to Bill Clinton) that if reincarnated he would like to return ‘as the bond market …because you can intimidate everybody’.

The bond market has largely been dormant for much of the past ten years, because inflation has been feeble and central banks have continued to hoover up the supply of bonds. Some issues, such as Austrian 100-year bonds have been stellar performers, but in the course of the past month have fallen by over 20%, a shock to the risk averse type of investors who hold these instruments.

More importantly, the US 10-year bond yield – the lynchpin of the global system – rose from 1% at the end of February to 1.63% this week, a move that is historically rapid and significantly large, even if yield levels are still low. Contrast the ECB’s odd comment that it was ‘monitoring’ yield moves even though many euro zone bond yields are negative, with the advice textbooks (up till 2010) gave that 3.5% was a good benchmark for the 10-year yield.

The move in bonds is significant in at least four respects. First, it has checked the dizzying ride higher in equity and credit markets and in the near future should make these markets more two sided. In particular technology stocks whose valuation multiples are sensitive to the level of yields have suffered while banks, whose business model is bolstered by higher yields, have done well.

Secondly, the rise in yields is a mini revolt of sorts against central bank policy. Third, it reminds us that should interest rates rise further, the colossal load of debt that hangs over the world economy could become existentially dangerous.

So far what has been interesting is that while bond yields (even adjusted for inflation expectations, or real yields) have risen, credit risk has been very well behaved. Should the level of bond yields rise further (to 1.65% and above for the US 10 yr) then this will create problems for leveraged investors and leveraged companies.

The fourth germane point is inflation. Like a long-lost friend, we haven’t seen inflation in quite some time – or so headline inflation indicators tell us (consumer price inflation in the USA is 1.3%). Many people forecast that with a triple whammy of the ‘end of COVID’, huge stimulus packages and easy central bank monetary policy we will see a surge in spending and therefore inflation (notwithstanding the taming effects that demographics and technology have on inflation).  

For the moment inflation is everywhere, except in the official inflation figures (it is beginning to show up in producer prices though). Inflation expectations, as measured by markets are high and rising however (close to 2.5%) and there is a generalized sense that inflation has been redirected into asset prices rather than consumer goods.

This phenomenon is more easily understood if we consider that survey’s report that half of 25–34 year-old Americans plan to put the money from their stimulus checks into the stock market. Treasury Secretary Yellen has been largely silent on this though I can’t imagine that any of her close academic economist friends from Joe Stiglitz to her husband George Akerlof would regard this use of ‘stimmy’ checks as economically productive. To that end, Yellen might surprise us by introducing some sort of transaction tax or tweak to capital gains, or more simply try to prompt changes in margin requirements.

The other pressing issue is how central banks will react to both rising yields and the likelihood that inflation is finally materializing. An overt reaction to yields in the shape of a ‘yield curve control’ policy (keep long duration bond yields low) would likely set off a powerful rally in technology stocks. What is more likely is that central bankers will ‘whistle past the graveyard’ of inflation in the sense of publicly denying its existence, though privately fearing that eventuality. If we were to get an inflation shock, small and momentary as it might be, then central bankers may have to maneuver into a very difficult policy change.  

This may be some way off. However, the ‘prodigal’ phenomenon of higher bond yields is here to stay especially if the velocity of money picks up. Like a jolt to the magnetic pole of the Earth, this new market regime will have wide ranging implications. With debt, stocks and housing all expensive, a breach higher in yields might have us all living in caves too.

Have a great week ahead


Curing Politics


In my Christmas missive I sketched out a number of ‘surprise’ events that might occur in 2021, one of which was that

As part of its policy of ‘national strategic autonomy’ France opts to favour two French made vaccines for its citizens, but adverse reactions lead to a health and political crisis. Emmanuel Macron’s standing drops in the opinion polls, and the French establishment search for a centre right candidate for 2022’.

Though I wrote the note under the jovial banner ‘Drinking with Dickens’, I have to adhere to the first rule of forecasting which is to loudly take credit for any prediction that is mildly correct.

France, like much of the EU, is struggling to distribute COVID vaccines and shows little sign of lifting lockdown restrictions. To be fair, much of the blame for the slow rollout of vaccines rests with the odd modus operandi of Ursula von der Leyen’s cabinet.

The French situation is however compounded by Emmanuel Macron’s attack on the Astrazeneca/Oxford vaccine, 1 million vials of which lie unused in France, and by the failure so far of French scientists and pharmaceutical companies to speedily come up with a French ‘cure’ like that of fusty old Oxford (by the way Oxford has 72 ‘affiliated’ Nobel Prizes to 70 for France).

In the end it looks like Europe’s quest for ‘strategic autonomy’ (a French concept) and its admirable desire to implement a European solution to the vaccine problem, that got in the way. This unity is now crumbling – small, states Austria and Finland want to join forces with Israel, and Italy has intervened to stop the export of vaccines to Australia. As with the initial months of the COVID crisis, countries are beginning to fail the ‘solidarity’ text, which is not a great sign for the international order.

All of this begs at least two questions – do we yet have any sense as to what ‘type’ of country has managed to best deal with the COVID crisis, and second what the political implications and fallout of COVID (especially for Emmanuel Macron) are.

First, at the beginning of the crisis it seemed that countries that had experienced a pandemic in the recent past (Asia), and those with robust social democracies (small, advanced economies and Germany) dealt best with the fallout from the coronavirus, whilst the Anglo-Saxon countries (and diverse others) did less well. The UK and the US, together with Israel and the UAE of course, have now done much better with vaccination programs.

This disparity in performance, with countries like India confusing the picture even more, will try policy students for some time. One of the better explanations I have heard is from David Skilling who makes the distinction between liberal market economies (LMEs) and coordinated market economies (CMEs).  LMEs use decentralised, competitive and flexible market mechanisms; CMEs rely more on established informal, relational arrangements between a range of stakeholders. In that context, the liberal market economies were quicker to organise supplies of vaccines and to distribute them.

We could spend a great deal of time debating which model is better – but it is a redundant conversation because changing a country from an LME to an CME, takes a great deal of time, and to quote the Skilling paper the race against COVID is a marathon, not a sprint’ (https://davidskilling.substack.com/p/vaccinations-and-varieties-of-capitalism)

What is more pertinent is how countries are set up for the next challenges – the potential for political unrest amidst enduring lockdowns (uncharacteristically Ireland witnessed a small but violent ‘anti-lockdown’ protest last week), the possibility of a large number of broken small businesses, the need to rethink how healthcare services can be made flexible, more focused on mental health and better funded on a permanent basis, and how the ‘scramble’ I referred to last week where numerous countries are chasing strategic assets, will distort supply chains and inevitably lead to new disputes.

Given that task list, who would be a politician? Back to my speculative comment on Macron. First, I find that commentators outside France regularly overestimate the chances that he might be de-throned, and that Marine Le Pen might take his place. In my view Macron’s greatest failing during the COVID crisis (and most leaders have been tripped up by it) is his failure to be ‘close’ to the French people during the crisis to the extent that his ‘Jupiterean’ stance may become a liability.

To that end, if he is displaced (I don’t think so) it will not be someone from the right (General de Villiers, Philippe Juvin or Le Pen) but rather a centrist who is more avuncular (Edouard Philippe or Michel Barnier). On the left, my bet is that their leading candidate will be Annie Hidalgo as a modernising/eco/egalitarian candidate. There is still lots of time to go till the next French election, but in the light of the post-Merkel world, it will matter hugely for Europe.

On a broader landscape, by the time we get to mid 2022, the political topics that preoccupy us will be changing. While tackling inequality (especially in the US) will be prominent, politicians and societies will be dealing with an environment that is ‘the opposite of confinement’ in the sense of people’s desire to socialise and travel, the potential headwinds of higher interest rates and higher prices, and ongoing challenges to the democratic model (Freedom House’s latest report highlights just how vulnerable democracy is).

On that note, my credit goes to the French judiciary who have now tried and passed sentence on two of the previous three presidents, and in doing so uphold the credibility of the republic. Other countries might examine this example when it comes to the conduct of their (former) presidents and prime ministers.

Have a great week ahead,