In the context of a political-economic climate in the US where good, regular economic data is hard to come by, commentary from industry leaders as they report earnings is providing some fascinating insights. Chipotle, the burrito chain, reported a surprise drop in revenues because two key consumer groups, households earning USD 100k or less, and younger customers (24-35 years old) are cutting back discretionary spending, even on fast food.

A range of firms with similar client bases underline this trend – car manufacturers report that sales of expensive, large vehicles are strong, but that lower income customers are preferring smaller, fuel-efficient models. McDonalds is revising its ‘extra value meal’ option, and credit card providers like Amex report very different types of activity from rising card balances and distress in the lower segments, to robust spending in its ‘Platinum’ category. In keeping with this last observation a headline in Thursday’s Wall Street Journal ran ‘big spenders keeping the party going’, while commentary from Federal Reserve board member Michael Barr referred to a two tier economy, where the wealthy are thriving.

Economists are blithely referring to this phenomenon as the ‘K-shaped’ economy, whistling past the graveyard of economic history that portends that revolutions are made of such obvious divergences in fortune. Indeed, it is a habit of economists that when they are unsure of the path of the business cycle, they reach for the alphabet. For example, in the aftermath of the global financial crisis, analysts pondered whether we might see a V, W or U-shaped recovery.

Now all of the talk is of a K shaped economy – which refers to multiple divergences between the price insensitive wealthy and those in economic precarity who are sensitive to inflation (this may help explain the election of Zohran Mamdani, but more on that next week), a services sector that is either shedding jobs and holding back from hiring compared to the upper echelons of the technology and finance industries where unprecedented levels of wealth are being created.

There are two other effects ongoing. The first is the economic effect of AI focused capital expenditure (across the energy, logistics and technology sectors). The second, more important trend is a mangling of business cycles, such that few of them are synchronized across geographies, or between the real and financial economies (German chemicals is in the doldrums but German finance is on an upswing).

Yet, granted that we have just witnessed the highest number of job cuts in an October since 2003 in the US, set against the fact that the stock market hit all-time highs (and valuation highs) in October, a better diagnosis might be the ‘Marxist’ economy – one where the owners of capital and the source of labour are at odds.

In the US, the top 10% of the population own 87% of stocks and 84% of private businesses, according to data from the Federal Reserve. On the other hand, we have previously written about the rise of economic precarity in The Road to Serfdom. So, whilst it is a new observation amongst the commentariat, the diverging fortunes of capital and labour should start to trouble policymakers.

To start with, central bankers are in a difficult position as cutting rates will ultimately make wealth inequality greater, and many monetary economists would argue that inequality is not an objective in the Fed’s mandate. This is a fiscal/political problem, and one that Donald Trump had vowed to fix. However, the kinds of necessary fiscal remedies would have a strong ‘Robinhood’ flavour to them (fewer asset or capital exemptions, higher capital gains tax, and potentially higher corporate taxes) in truth are unlikely to be implemented.

The White House might argue that at least the US isn’t Europe – where everyone is poor, as all the wealthy have fled. Listening to debates in the UK House of Commons or France’s parliamentary fiscal committees last week, I have some sympathy for this view. Europe’s economies look ‘pear-shaped’ as the English might say.

Still, the idea of the K-shaped, or Marxist economy is worth studying, not so much for its economic consequences, but for the political, and ultimately financial, change it may bring.

Have a great week ahead,

Mike 

France, Germany and the UK, the industrial and intellectual powers of the early 20^th century, are struggling to achieve economic momentum, against a threatening political backdrop where largely new parties from the right (Reform, AfD and Rassemblement) are hovering over these democracies. A common thread between the three countries is a lack of political and policy coherence.

This is not a problem for China, which whilst becoming even more autocratic, and has a policy mechanism that has served it well called the Plenum, which is held seven times during the five yearly policy making cycle that aims to set the long-term direction of the development of China by the Communist Party. Unlike the theatrical Labour and Tory party conferences in the UK, the Plenum is a sober affair.

Amidst the generalised chaos of Western politics in recent weeks, China held its most recent Plenum a week ago, of which there has been relatively little Western coverage. The object of the Plenum, a closed-door meeting between 370 Communist Party Central Committee members, is to agree and set out the broad (economic) policy objective for the next five years, to which further detail will be added in the new year.

The backdrop to the Plenum is a more sluggish economy than the Chinese leadership would wish for. In particular, the Q3 GDP print was 4.8% Y-o-Y, which comes in just below the government’s 5% target. House prices fell again in September, this time at their fastest pace in 12 months. In addition, retail sales growth slowed and the contraction in property investment was disappointing. The need to boost demand is also an objective that has emerged from the Plenum.

The headline takeaway from the Plenum is that China ‘should achieve greater self-reliance and strength in science and technology’, which in many respects mirrors the path that the US and Europe are taking in developing their technology ecosystems in a strategic, autonomous way.

In more detail, the main thread from the Plenum is the stated objective to build a modern industrial system, which is now given top priority by the Party. This comes against the backdrop of the ‘involution’ policy of paring back excess capacity in existing industrial sectors, such as chemicals.

The new policy will focus on building industries in leading technological segments – from clean energy to AI to semiconductors. Watchwords like intelligence, digitalization, and green transformation—will take policy priority over services (which was a priority in the previous Plenum gathering).

What is interesting is that the strategic competitive nature of the new policy is very much clear, as is the role of the US as the primary competitor. In this respect the Plenum outcome is a clear signal to the US regarding the trade war and restrictions on technology exports to China, and it puts last week’s trade ‘truce’ between the American and Chinese leaders in perspective, suggesting that China is simply buying time until it achieves technological independence from the US and Europe.

The aim then (extending from the previous Plenum) is to make China more like Silicon Valley. My interpretation of all of this is that Xi is shaping China in the form of a more closed state (which makes for a less open world), that curbs the will of those inside, adopts a singularly selfish approach to those outside, and relies on several great strides in technological industrialisation for the prolongation of the ‘China Dream’.

The contradiction here, and specifically between the strands to emerge from the Plenum, lies in an increasingly restrictive social infrastructure on one side and the ambition of a high quality economy. China needs innovation but is creating a socio-political system that smothers it (a number of people have mentioned to me how some of China’s most creative people now live in Japan). This is the fallacy of authoritarian systems. Indeed, one of the facets of the Plenum was the replacement of 11 officials in the Central Committee – the highest number since 2017, most of whom held military roles.

In this respect, Dan Wang’s recent book ‘Breakneck’ is interesting, rather it is much better in its commentary on China than other parts of the world and doesn’t fully do justice to the theory that an engineering led leadership is one of the key sources of China’s economic success. In the book Wang flags the focus on the high-tech sectors of the economy that has surfaced at the Plenum, but also notes China’s appalling failures in social areas – its handling of COVID and of the one-baby policy.

Wang’s view is that China will have little difficulty in finding scientists and researchers to pioneer discovery in fields like quantum computing, and here is the correct. The emerging issue may be finding the entrepreneurs to take and commercialise these technologies, and even more so, to do so on an international scale.

That might be a problem for the next Plenum. For the moment China is focusing on frontier technologies, so much so that the foreign minister of Germany, Johann Wadephul, had to cancel a trip to Beijing, because no-one would meet him.

Have a great week ahead,

Mike

When George W Bush became president of the United States in 2000, following the relative calm and prosperity of the Clinton years, he was surrounded by a group of advisers called the ‘neo-cons’, who significance grew in the aftermath of the September 11 attack on America.

The term ‘neo-con’ stemmed from Irving Kristol, one of the intellectual forces behind the right in American politics, who famously defined neo-conservatives as ‘liberals mugged by reality’.

In particular, the neo-cons’ policy approach was associated with an aggressively militaristic foreign policy, as exemplified in the invasion of Iraq. Though the neo-cons pre-figured Donald Trump, they now likely feel a diminished ideological attachment to him.

Now, as last week’s EU Summit in Copenhagen heralds the need for shift towards a tougher European policy stance on Russia, the time has come for Europe to have its neo-con moment, as centrist governments wake up to a geopolitical mugging by Russia, China and increasingly, the USA.

The extent of the Chinese pilferage of British state secrets is becoming clearer, the German intelligence services warn of subversion, manipulation and infiltration of German institutions by Russia and the fact that the Dutch intelligence agency has announced that it will curb intelligence sharing with Washington, lest its secrets are passed to the Kremlin, are all alarming. As evidence of these and other incursions grow, multiple European countries – Denmark and Sweden for example – have placed themselves on a war footing.

At one level, the response of European countries (UK included) has been impressive. Germany has swept aside its debt brake and will spend up to Eur 1 trillion on defence in coming years, the UK has been an unwavering backer of Ukraine in its defence against Russian aggression, and there is now a defence start-up mania across Europe.

However, there are plenty of signs to suggest that Europe’s centrists have not come to terms with the vandalization of its democracies and institutions by outside actors. For example, tens of thousands of Chinese students populate UK universities, the south of France, Vienna and parts of Italy are host to wealthy Russians, and the EC is far too forgiving of the obstructionism of Viktor Orban. At the country level, there are notable laggards, Spain and Ireland stand out as nations that are ripe for a ‘mugging’.

Following Captain Bligh’s dictum that ‘the beatings will continue until morale improves’, Europe will have to become more absolutist in its dealings with the world beyond, and in terms of the measures it will need to protect its democracy.

The question then, is whether Europe is on the verge of a neo-con moment and what that might look like.

One response might be to list a series of necessary actions – a mechanism that might allow the EU to exclude recalcitrant members like Hungary, a more unforgiving policy on immigration, or a more full ‘shadow’ war against Russia, or even an aggressive acceleration of the savings and investment union (unlikely I fear).

A better signal would be a change in mentality. The EU and the UK currently march to the beat of every incursion and slight from the likes of Russia, or to the tone of every tweet from the US president. Europe will have to play at its own tempo, and more frequently up the ante in areas where it is capable of doing so. It must also change the international narrative around Europe, where it is cast as an ineffectual geopolitical actor and economic weakling.

The great pity, and a sign of a world that is being degraded, is that after a long period of globalisation when international democracy flourished, Europe could well end up as the last pocket of liberal democracy in the world. Whilst this is viewed as a vulnerability from Beijing and Moscow, and with disdain by others, for the vast majority of people around the world – education, healthcare and civil, open societies, all key characteristics of the European model, are what they crave. In years to come, Europe may be the only large region where the rule of law matters, and where institutions are stable.

A Europe that is ‘mugged by reality’ will in time act in a more ruthless and perhaps riskier way towards non-democracies, while concurrently being more confident in its socio-political model.

This EU Summit – which dodged a number of geopolitical issues (such as the use of Russian capital) – was not yet a ‘neo-con’ moment, the issue is how bad the mugging needs to be in order to change minds.

Have a great week ahead,

Mike

Last week saw the annual meetings of the IMF and World Bank take place in Washington, which typically offer a chance for economists and policy types to debate the state of the world. Several friends who attended reported back that the mood was less nervous than similar sessions earlier this summer, if only because the notion that we are in a normal, ordered world has been shattered.

In general, the IMF view is that in the next twelve months, the world economy will experience a low, positive rate of growth, with momentum in Europe picking up, just, and an otherwise troubled US economy flattered by the powerful effects of AI driven investment spending.

In the early years of globalization, the confabs at the IMF/World Bank meetings produced a narrative that became known as the ‘Washington Consensus’ – effectively an approach to world economic development and globalisation, that was denounced by critics on the left as a neo-liberal policy recipe book.

Professor Joe Stiglitz, formerly the chief economist at the IMF, and thus one of its ‘high priests’, became very critical of the running of the IMF as an institution. In 2002 he wrote a book entitled ‘Globalization and its Discontents’ in which he mentioned globalization only 64 times but the IMF some 340 times. Despite that, and two case studies in errant leadership – at least two recent managing directors, Rodrigo de Rato and Dominique Strauss Kahn, were embroiled in scandals, the IMF maintained its place in the global macro discourse.

With the benefit of hindsight today, the Washington Consensus was valuable in the sense that it was a consensus– though perhaps not agreed – it encapsulated an approach that many countries were content to go along with as part of their first foray into real economic development. That consensus is now disturbed.

I have long suspected that Donald Trump would shut down the IMF, but either he seems not to know it exits, or his treasury Secretary is a such a devotee of the IMF meetings and regards it as a useful forum to criticise China (notably, Bessent’s former chief of staff Dan Katz is now the Deputy Managing Director at the IMF). Now, it is not so much that the IMF will change, but the world around it has.

The ‘Fund’ used to be a financial ambulance (social scientist David Graeber had a harsher view calling it the ‘the high-finance equivalent of the guys who come to break your legs’), and in this sense it has rightly faced criticism in recent years – notably for its dealings with Greece (it was too harsh) and Argentina (it was too soft).

Today, it is a beacon of the orthodox, in an economic world where there seems to be a premium to unorthodox policy making. There are plenty of examples.

The IMF has stated that global public debt will hit 100% by 2029 (the highest since 1948) and singled out the US as a reckless player here. However, standard, or ‘orthodox’ remedies such as raising taxes and cutting spending are spurned by the White House in favour of antique policy choices (tariffs) and investment drive by immoral suasion.

Equally, now that Javier Milei’s chainsaw school of economic policy has run out of steam, the now traditional IMF visit to Buenos Aires might be expected, but it instead enjoys a financial support package from the US that will do little to help the underlying issues facing the Argentine economy.

Policy orthodoxy is being jettisoned in other ways. The Nobel (Riksbank) Prize in Economics went to three economists (Philippe Aghion, Joel Mokyr and Peter Howitt) for their work on how economies grow through innovation, as driven by higher education and research – two facets of the American model that are now being undercut.

If the IMF and its meetings are a beacon of the orthodox, governments like the USA are sailing past, on their way to a fiscal adventure, or simply speeding towards the financial rocks. If they hit those rocks, the warnings of the IMF economists that deficits are too high and debt to heavy will ring true, and there will be no money for a rescue.

There is a crisis viewing in the US banking sector as markets question whether lending standards have been compromised. The index of US regional banks has fallen 10% since the start of October and could skid lower. It might give the IMF something to do.

Have a great week ahead, Mike

The Anglophone press has recently become very excited by the contribution of economist Gabriel Zucman to the debate in France on the dire fiscal outlook, and the notion that a tax on the super-rich might solve France’s intimidatingly high deficit and debt load. The idea is superficially attractive in France, where wealth is a dirty word, though there is lots of it (France has 5% of the world’s millionaires, according to recent UBS/CS Wealth Reports).

For his part, Zucman – a clever economist and winner of the Clark Medal – is guilty only of not having spent enough time with billionaires, and learning how mobile, and unpatriotic capital has become. Notably, fiscally weak states risk capital flight. Zucman may also have missed the signal that a stiff wealth tax (as a fiscal response) sends to the broad investment community. The UK is an example, where the recent policies of the Tories and Labour have allegedly scared all the billionaires off to either Milan or Dubai.

In France specifically, the debate on the Zucman tax obscures the reality that, in the effective-post Macron era, there is no appetite across the political spectrum to tackle the large deficit and debt load. However a new left-leaning government in France will put the notion of a wealth tax even more so in the limelight.

More broadly, the focus on wealth raises two important questions as we move into the ‘Age of Debt’, where the consequences of indebtedness pervade and dominate politics, financial markets, geopolitics and society. They are how will the capital of the wealthy behave in a debt laden world and how will governments marshall the wealthy?

At first sight, in a world where the burden of mostly government debt, is weighing on economies, owners of capital face opportunities and constraints, both of which will increasingly be driven by the notion of patriotism.

High levels of government debt mean that governments cannot be as active in building new infrastructure, be it in AI, energy or in defence. That much is very clear in the UK, and despite the easing of the German debt brake, is also true in Europe. In the US, much of the new AI infrastructure will be funded by the cash rich technology giants and the private credit sector.

To that end private asset investors, and seasoned family businesses in the US as well as Europe, may have a larger strategic imprint, and the upshot of this is that tax focused economists like Gabriel Zucman should spend more time thinking of how to better incentivize private investment in Europe, which is yet missing in large economies like Germany.

The other, newer aspect of ‘patriotic capital’ relates to bond markets. We may not be far away from a point where institutional investors begin to lose faith in the bond markets of the major economies – China, Japan, UK, France, Italy and the US – near 60% of the world’s economy. In many of these countries bond yields may rise to multi-decade highs. The US, where inflation looks ready to push higher again is a particular concern, and this might well betray President Trump’s desire to take control of the Federal Reserve’s balance sheet.

Given that the White House has little appetite for orthodox fiscal policy it may, in the context of very high bond yields target the very wealthy, not so much as sources of tax revenue, but as patriotic buyers of debt. There are close to 130,000 ultra high net worth individuals in the US (wealth over USD 50mn and beyond) and together they represent a pool of capital of tens of trillions.

As is now the case in Indonesia, in the near future it may be that, consistent with the idea of financial repression, the US government issues sources a ‘patriotic’ loan financed by American family offices, with the rider that those that have the correct asset allocation do not get a visit from the IRS. It might even be that more nuanced assets – defence innovation venture funding, is farmed out to wealthy Americans (it is largely the case already).

The reality of the indebtedness of the large economies means, somewhat contrary to the Zucman framework, that the wealthy and their governments become more symbiotic, and that there is a ‘contract’ between the wealthy and government. None of this solves the fact that some very wealthy pay miniscule taxes, nor that in countries like the USA, where wealth inequality is at historic extremes, and in particular that the super wealthy exert an undue influence on public life.

What is ahead, given weak government finances and record private wealth, is an era where patriotic ‘barons’ invest in government debt for the sake of fiscal peace and stability, and where they play an outsized role in the private economy. In time, this may sow the seeds of even greater upheaval.

Have a great week ahead, Mike 

This week’s note is not about economics nor geopolitics but rather the inspiring Jane Goodall, who very sadly passed away in California this week. I’ve come to know her in the last five years as a trustee of the JG Legacy Foundation, and to add to the great mountain of tributes to her, can attest that she was a remarkable person, which is something we can say of too few figures on the world stage.

Jane was much better known in the Anglophone world than elsewhere, but the contribution of her research is felt internationally. To those who are less familiar with her life, in her early 20’s Jane saved up enough money to travel to Africa to pursue her ambition of studying wildlife (chimpanzees). After a period working with the famous paleoanthropologist  Louis Leakey, she won his support for a solo research trip into the Gombe reserve in Tanzania to study chimps (though her mother came along to keep her company). There is a very good BBC documentary on Jane’s work in Gombe.

This research became her life’s work and changed the way the scientific community regarded animals and the ways in which they were researched. An early National Geographic article by Jane, authored in 1963, is worth a read, not just because it gives a sense of her patience and intrepid curiosity, but for what it teaches us about the relationship between animals and humans, and the revelation (it was at the time) that animals are social, emotional creatures.

The flip side of this thought is that many humans are only a thin veneer away from the behaviour of chimps, and in a world where the law of the jungle is re-asserting itself, there are more and more displays of what we could call primate type behaviour.

Jane Goodall had many qualities – she was, I think very tough, brave and firmly believed in the causes she pioneered and supported. She travelled everywhere – in the past week she went from Bournemouth to New York and then California and was supposed to come to Cork at the end of this month. Though she was welcomed in the very top echelons of world society, she was most certainly not materialistic, save for a weakness for good whiskey.

If I could sum her up, and draw lessons from her life to today’s world, I feel she was otherworldly in respects of her life story, comportment, and influence. Without over-moralising her life, there are at least two observations to make.

The first, given that my inbox is full of tales of the de-humanisation of society – collapsing demographics, job markets deflated by AI, diminished social interaction between young people and other angsts created by social media, is of how Jane is a role model. In this context, Jane Goodall is an example to young and old of a life well lived, and one that has mattered. Two of her qualities that I would stress that can inform people today, are her intellectual curiosity and courage.

The second remark, which is all the more obvious, is that the causes Jane pioneered and the values she personified, are increasingly the exception than the rule. USAID budget cuts will lead to deaths in Africa, conservationism and the cause of the environment are no longer fashionable causes though arguably they are more vital than ever. In politics, there is a narrative that ‘bad things are happening’ without meaningful opposition, serious counterarguments, and meaningful leadership. One of Jane’s noteworthy statements was ‘The biggest danger to our future is apathy’. The analogies to the political and corporate worlds are obvious.

I would like to finish this note by encouraging readers to dip into the story of Jane’s life (again sites like National Geographic are good), and the various projects that she has inspired like Roots and Shoots the movement that helps young people impact their communities, the Jane Goodall Institute and then the Jane Goodall Legacy Foundation, which will soon start to fund the projects that Jane cared about.

Quite some years ago, at an evening gathering in Moscow, I had the pleasure of interviewing Natalya Kaspersky (in 1997 she founded the cyber security firm Kaspersky Lab with her then husband Eugene – he and many Kaspersky Lab colleagues had previously worked in the KGB).

I put a question to her regarding the growing number of Russian entrepreneurs, who seemed to thrive in a range of countries – the US, Canada, Germany and so on – but I was surprised by her answer – that the talent of the new entrepreneurial class was entirely due to the Russian state, its educational system and various socio-political institutions.

Today, not unlike both America and China, the Russian state and the notion of entrepreneurship are at odds. Many wealthier, young Russians lurk in Dubai, Cyprus, Georgia or parts of Asia, and the domestic labour market in Russia has been badly damaged by the war in Ukraine. Tellingly in the context of Natalya Kaspersky’s comments, much research talent has been directed into military focused technologies, and more broadly Russia’s ‘War Economy’ has become the only game in town.

This has created opportunities and dependencies for Russia. On one hand, together with China, and Iran, Russia is now a key part of an energy empire – that trades commodities, and builds commodity supply chains for at least one half of the world (India is shifting into this sphere). Both Russia and China have their claws into Africa, in a sinister repeat of what Tom Pakenham called the ‘Scramble for Africa’.

In contrast, Russia’s isolation and mono-sectoral economy leave it heavily dependent on China – some 90% of high-tech imports into Russia come from China, and it is yet unclear what financial support it gets from Beijing. In a week when Argentina’s economy and financial markets spluttered to a halt and triggered a rescue by Washington, Russia risks becoming China’s ‘Argentina’ if that makes sense.

There are however a few lessons for Western policymakers from Russia’s war economy, the first of which relates to debt. An under-remarked point is that Russia’s debt to GDP is only (officially) 20% which at least means it is not constrained by a huge debt burden, unlike the US, Britain, France, China, Italy and Japan. As the historian Niall Ferguson has remarked, no empire that has paid more to service its debt than its military has survived. In the future, indebtedness and military strength will be inter-related.

In 2008, after its partial invasion of Georgia, a post-mortem took place on the relatively poor state of the army (its training, equipment, and tactics) and hence began a modernization process in earnest. Many critics would say that elements of this – such as the structure and training of the army have failed completely, but other elements, notably military technology are a lot better. Germany, Spain, and Italy all need, or are about to embark on modernizations of their armies, while other countries like Ireland will need to remake their armies almost from scratch. In this respect, in a more contested world, there is a premium on getting military modernization right.

The second element of this, which is being felt in cities like Copenhagen, Warsaw and Berlin this week is Russia’s conception of total war. In 2021, a few months before the invasion of Ukraine we wrote (from Great War to Total War )about the now Russian army chief General Gerasimov’s doctrine of total war, which is a view of conflict that covers many strategies such as cyber, border testing, propaganda, and covert attacks, for example. This approach is very much on display across Eastern Europe – the encouragement of discord in Bosnia, the hollowing out of Hungarian politics and in particular the harnessing of Belarus as a form of geopolitical attack dog against the EU.

In this regard, the incursion of drones and jets into European airspace, with the added spice of cyber-attacks, is a sign of Russia stressing and probing European defences, and most importantly, testing the commitment of the US to NATO. My worry is that an accident or an escalation cannot be far off, and the risk that the Ukraine conflict spills into Europe cannot be ignored. Indeed, military planners in Germany and France are warning of the need for thousands more hospital beds to accommodate the casualties that might result from conflict with Russia.

European military planners should focus more on disabling Russia’s economy, which is struggling.

While GDP growth just popped into positive territory, the economy is in a rolling recession of sorts, or at best a period of impoverished stagflation. The labour market, banking sector and consumer sector are points of vulnerability. A longer-term effect is that the potential of the economy is being hollowed out by the effects of military Keynesianism. The US department of war has started to add financial market experts to its strategy teams to plot the vulnerability of enemy economies, Europe should do the same. Its sanctions regime is only half baked, and there is still plenty of low hanging fruit – such as the enablement of Russian oil and gas exports by Greek ship owners, the ongoing flux of Russian money through Austria, Cyprus and other EU states, not to mention the flow of Russian tourists.

Then, there’s plenty more that can be done to disable Russian banks and companies, and to stop proxy trade across parts of Eastern Europe and the ‘Stans’. Europe is already in a shadow war with Russia and will get little help from the current US administration. It needs to focus on Russia’s weak points.

Have a great week ahead, Mike 

One of the pleasures of writing this note is the feedback from readers and the subsequent debate – usually by email, sometimes over a coffee or pint, depending on my travels. The latest such exchange – from a reader in Australia, too far for a pint – related to the looming fiscal catastrophe that uniquely grips most of the major G7 economies and China. Some 60% of the world’s GDP is encumbered by debt to GDP of 100% or more, and untypically large deficits in the context of a business cycle expansion phase.

The question from Australia was ‘how does it all kick off?’ in the sense of when does the next debt crisis begin? I’ve been pondering this since making the BBC documentary ‘Waking up to World Debt? but still don’t have a clear view on what might trigger a crisis, and am mindful of Rudiger Dornbusch’s maxim that imbalances accumulate for longer than you think, and then turn sharply quicker than one would think.

In that respect I think a debt crisis will be soap operatic, and unravel in various stages, not unlike a good Netflix series. In particular it will have a number of distinct characteristics – the historically unprecedented fact that so many large economies are indebted and will all try to escape the debt trap at the same time, and the potential transfer in economic power between corporates (not hugely indebted).

There are a few potential starting points. A dramatic one could be a loss of faith in a major central bank, from the point of view of markets losing confidence that the likes of the Bank of Japan can continue to hoover up that nation’s bond market, without financial consequence.

A more conventional scenario, from an orthodox point of view, is the idea of sustainability, which Keynes defined curtly as ‘‘when it has become clear that the claims of the bondholders are more than the taxpayers can support’. A lumpier definition comes from institutions like the IMF and World Bank whose standard analysis aims to assess whether

‘In general terms, public debt can be regarded as sustainable when the primary balance needed to at least stabilize debt under both the baseline and realistic shock scenarios is economically and politically feasible, such that the level of debt is consistent with an acceptably low rollover risk and with preserving potential growth at a satisfactory level.”

In that respect, the conditions for a debt bust might start with a recession, where two problems might occur – the lack of fiscal space to cushion a recession and the political side-effects of this (from riots to split governments), and the immediate ‘discovery’ by markets of those bond markets that are still considered safe havens and those where country credit risk is high (i.e. France).

In particular, the inability of some governments to stimulate their economies without taking on more debt could lead to a deeper recession that might trigger a significant drop in asset values (bad for real estate loans and private credit). Concurrently a new set of bond safe havens might emerge (Norway, Ireland, Netherlands and Germany), whilst previously stable markets (Belgium) might sell-off.

At this early stage, a lot of focus will be on central banks, and those with the credibility and capacity to act to absorb market stress, will likely see their currencies well bid (the euro could be a surprise here). My instinct is that in the case of the Federal Reserve, which might well be a component of the US Treasury under the Trump administration, the fear of highly unorthodox policies will drive the dollar down, rather than upwards as is often the case in a crisis.

A further concern is that in a break with the last seventy or so years of policy making, the US will no longer act as the coordinator of a crisis rescue plan. International economics is becoming more competitive and more game theoretic, such that a debt crisis rescue plan will look more like the COVID crisis, where there is a stark lack of collaboration between the large economies, who will tend to prefer their own, localised rescue plans. To this end, currencies will be very volatile. And that’s just for a start.

Have a great week ahead, Mike

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In ten or so years’ time, the question that business leaders, some politicians and policymakers, not to mention the public at large in the Western world, will likely have on their minds is ‘Is a Restoration Possible?’

This thought was prompted by a visit through some of the older parts in England -Salisbury and Dorset, followed by a trip to New York for the McKinsey Global Strategy Summit. There are parallels between the two worlds.  

In the middle of 17^th century England, the arrest (in 1646) and subsequent death of King Charles I, led to a historic experiment with democracy (in which the Levellers were prominent),., which took a wrong turn (Cromwell positioned himself as Lord Protector). This period was known as the Interregnum – a bit like the current German concept of Zeitenwende – and came to an end after the death of Cromwell and the return of monarchy with the installation of Charles II as king in 1660 (The Restoration).

In many parts of England, notably Dorset, the Restoration was problematic because of lingering political and religious divides owing to the rivalries that were bred by the civil war. The overturning of Puritan laws and social restrictions was also controversial in parts, though the Restoration also produced a mini cultural renaissance.

The story of the transition from the uncertainty and experimentation of the Interregnum to the old order of the Restoration might appear interesting but obscure to some readers, but as a template, it doesn’t fit badly on the new, evolving world order. We have left the thirty-year-old ‘regime’ of globalisation and are moving into the Interregnum – which will see the old order unravel and may not provide many clear indications as to what kind of equilibrium the world settles into.

The transition through the Interregnum will have many wondering if a return to the many boons and benefits of globalisation is possible (‘a Restoration’), whilst others may believe that the vandalization of globalisation produces changes that are so profound that they are irreversible (A Restoration is not possible).

A Restoration would see a rebound in the health of democracy, civil public life, a trade outlook characterised by a reversal of tariffs, greater freedom of labour and better policing of trade conflicts. Two of the great bonuses of globalization, low, stable inflation and the absence of major wars, would return.

At this point, some seven months into the second Trump administration, we are accelerating away from the rosy Restoration scenario. If anything, there is an emerging sense of an ideological consistency across the administration (some people still mention Project 2025 for instance), and an accompanying desire to reshape America permanently.

An extrapolation of the events of the past few weeks might see the following trends – a breakdown of NATO, the IMF and World Trade Organisation, an open conflict between Europe and Russia, the emergence of a regional consensus between China and the larger countries across Asia, huge currency volatility (around the generally weaker dollar), the arrival of a major African power (Nigeria?), the collapse in late 2026 of the AI Bubble, the existence of the most extreme levels of wealth inequality (mostly in the US and India) ever recorded and the attendant socio-political consequences of this, and finally, to maintain the cheery tone, the undermining of the notion of the international rule of law and corporate contract law. I am very likely erring on the pessimistic side for dramatic effect, but few of these trends lead to a ‘Restoration’.

A less dramatic outlook, is that the path towards a ‘new world order’ (we have sketched this path out in a previous note ‘Are We There Yet?’) could still shift towards a ‘Restoration’ but it will first be strewn with several mountain like obstacles (a friend invoked James Martin’s similar idea of a canyon – from Martin’s book ‘The Meaning of the 21^st Century’).

These obstacles are, in my view, a climate crisis, a debt crisis and a crisis of democracy or governance. The way in which the international community tackles these crises will determine whether we get to a Restoration or not, and the key policy characteristic will be collaboration across the major regions. In this context, one of the early confirmations that globalization was dead, was the absence of cooperation between the US, China and to a less extent Europe, during the COVID crisis.

To take the example of a debt crisis, the absence of a ‘committee to save the world’ would likely see far greater market volatility, far greater damage to asset prices and a post crisis environment where banking systems and economies take longer to recover, do so unevenly and adopt more localised corporate governance regimes in the post-crisis period (China is the critical country here). Alternatively, collaboration across central banks, an internationally adjudicated resolution to a (government debt crisis) would lessen the financial damage, and potentially provide the context for a more global financial system, post the crisis.

I have only started to mull the concept of a Restoration, but my fear is that a full, coherent Restoration will only occur after various crises, and all of the bad options have first been exhausted.

Have a great week ahead,

Mike

Oscar Wilde’s line that ‘to lose one parent is a misfortune, to lose both looks like carelessness’ can be applied to politics, notably to France’s earnest President Emmanuel Macron, who may lose his fourth prime minister in just over eighteen months when Francois Bayrou submits his government to the mercy of parliament next week.

The likely fall of the Bayrou cabinet may see another powerless coalition cobbled together, or even a general election. In the near term the risk is of a collision between Marine Le Pen’s Rassemblement (old Front National), the bond market and the French state.

That also most surely means the end of the ‘Macronie’, in the sense that Macron is in office but not in power. Polls suggest that few French people would regret or contest this.

It should not have come to this. Unlike many of its neighbours France has generally very good public services, transport and education systems, and Macron has manifestly enlivened the private investment and technology sectors of the economy. Economic growth has been decent by comparison to the UK and Germany at least. Compared to many of its peers and competitors, France is an agreeable and affordable place to live.

However, on Macron’s watch, France has become imperilled financially, the issue of immigration and identity still taxes public life to the extent that the Rassemblement is now the largest single party in parliament, and in foreign policy, France has lost sway in Africa and the Middle East, and more generally on the world stage. Another omission, where the broader elite is complicit, is the failure to reform the French democratic system.

In that context, there are perhaps three lessons from the wimpering end to the Macron era.

The first is that the major economies are now well and truly in the ‘Age of Debt’, where the consequences of indebtedness pervade and dominate politics, financial markets, geopolitics and society. The large economies of the world have never been so indebted, and the fact that they are at the same time will ultimately make debt reduction more disorderly. The Trump administration recognises this and is adopting highly unorthodox, risky measures to make its debt load less unsustainable. In Britain, there is widespread recognition of the country’s fiscal fragility, but policy makers are yet highly risk averse in tackling it. That France is in denial will only make the correction all the more painful.

In France, there is scant willingness on the part of the policy elite nor any of the political parties to seriously address France’s financial situation, and like a fancily dressed pauper, it continues to live beyond its means. For the time being, it can hide behind the euro, but its fellow euro-zone member states will soon become vigilant that France does not trigger another European financial crisis. The upshot of this is the loss of economic autonomy for France.

The second lesson is for centrist parties in the dwindling number of democracies in the world. In the context of the unravelling of the old, globalised order, amidst interference in European affairs from larger countries, government of the centre need to tackle problems like immigration, debt and geopolitics head on, with more aggression, else the parties of the fringe will capitalise on their inaction. Concretely, this amounts to a very different tempo of politics in Europe, and one that is ultimately more singular.

The third lesson, which is specifically European but that will strike a lesson with many Americans, is that European needs to take control of and change the narrative on its own destiny. European leaders have been far too reactive to the demands of the White House, and the violence of the Kremlin.

A lot of hope was placed on Macron to shape a narrative for Europe in the world, notably so in the absence of clarity of thought and leadership from many other European countries like Germany. Europe’s narrative should be that increasingly, for valuable public goods – democracy, the rule of law, education, healthcare and culture – it is the best place in the world. The problem is in paying for it.

Michael O’Sullivan is co-author, with Pierre Charles Pradier, of ‘L’Accord du Peuple’ (Calman-Levy).