Full Mettle Jacket

A week ago I started reading Admiral Jim Stavridis and Elliott Akerman’s second book, ‘2054’, which like the first (‘2034’) is a work of fiction designed to tell us about how our own world is evolving and the risks that will confront us. Without spoiling the plot, ‘2054’ demonstrates how new technologies can be deployed in nefarious ways, with the goal of turning the tide of geopolitics. However, as much as I enjoy the work of the Stavridis/Akerman team, my reaction to ‘2054’ was much the same as ‘2034’ (‘2034 – are we already there?’), which is that it has been rendered out of date by bizarre events in the real, political world

The detonation of over seventy years of American diplomacy and soft power by the various speeches and deeds of the Trump administration is a fin de siècle moment, that has drawn comment across the diplomatic world (the most pertinent was that of the Singaporean defence minister who described how he saw the USA moving from a force for ‘moral legitimacy’ to a landlord seeking rent’).

The worry now is that the US will treat its allies like enemies and its foes like friends. There was much consternation in Europe, but as this note has argued so many times, very few European countries have faced up to the challenges of the post-globalized world (Mario Draghi’s speech to the EU parliament last week put it very well…’do something!’).

There is now a furore over Eur 500 bn defence bonds, joint nuclear shields and defence equipment shopping lists. But, a more urgent task than buying fighter jets is the need for Europe to have a coherent security strategy. In a weekend where many are anticipating the results of the German election, a neglected development was the collapse of government formation talks between Austria’s centre-right OVP and the far-right FPO.

Some weeks ago, the parties had agreed on an economic programme, but could not settle on a common foreign policy, a critical stumbling point was oversight of the intelligence services (the OVP wanted to be in charge). This is a sensitive topic given that the FPO has a soft spot for the Kremlin, and specifically the fact that in 2018 the Herbert Kickl (FPO leader), when he was Austria’s interior minister, ordered an investigation into the country’s security services. Today, few of its EU peers share intelligence with Austria.

Reflecting that, the immediate challenge from Russia is infiltration, sabotage and manipulation across Europe (the Gerasimov doctrine and David Kilcullen’s work on Russian/Chinese tactics are both worth a read here ‘From Great War to Total War’). The EU has done relatively little to push back on this interference, and now has an urgent security (as well as defence) challenge.

This could take various forms.

The first is to penalise EU states that systematically go against the grain of the policies, values and interests of the Union. Hungary is the main offender here and whilst some EU funds have been withheld from Viktor Orban, the EU has in general failed to confront him. In the recent past there has been talk in the European parliament of excluding Hungary from the EU, which is technically difficult, but is a necessary part of a more ideologically consistent Europe, and one where bad actors face a penalty for their actions.

A second strand is to have much greater oversight over the movement of Russians in Europe, and of their capital. Vienna, Milan and the south of France, not to mention parts of Switzerland, are popular destinations for wealthy Russians and some European capitals are saturated with Russian money (Mark Hollingsworth’s book ‘Londongrad’ is instructive here as is Oliver Bullough’s ‘Butler to the World’). To emphasise the point, Russian interference in UK and lately Irish politics has not been aggressively countered, and my fear is that this is much worse in other countries like Germany.

Instead of clamouring to buy rocket launchers, Europe’s political classes have a lot to do domestically to shut the door on Russian interference in European affairs.

Then, on a more structural level, there is scope for much greater intelligence sharing across governments and joint task-forces on organised crime (gangs are a favourite extension of the Russian state). From the point of hardware, there is a need for increased joint use of satellites and electronic warfare collaboration.

The distinction between security and defence is an important and urgent one and a reminder of how complacent European governments have been. Whilst defence capabilities will take time to build up, the measures to be enacted in the security domain are less challenging to operationalise, but constitute a real test of European governments’ mettle.

Have a great week ahead,

Mike

Remember the Washington Consensus?

Does anyone remember the Washington Consensus? Such a phrase might seem odd in today’s world but in the early 1990’s the notion of a ‘Washington Consensus’ was very powerful as a method for globalisation, and hotly debated by the left.

Globalisation worked well because, to be overly simplistic, it was facilitated by a very clear world order that helped to establish the rules of the ‘globalisation game’ and the norms associated with this. At their core, these rules were American, or at the very least they were made in Washington within the institutions that were set up to marshal the post-World War II world order, the IMF (International Monetary Fund), the World Bank and the United Nations in New York. America held the purse strings of these organisations and regular meetings at these institutions became a means of schooling ministers from both developing and emerging economies in the ways of American economic power.

These discussions aired what soon 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. With the benefit of hindsight today, the Washington Consensus was valuable in the sense that it was a consensus, it encapsulated an approach that many countries were content to go along with as part of their first foray into real economic development.

Today, the Washington Consensus is in disarray. The institutions that it was built around, like the IMF are defunct, and others like the WTO have been undermined by both China and the US in recent years. The decision of the US to leave the World Health Organisation is another blow. The ‘Consensus’ is dead because there are now other competing methods as to how countries can develop, and of the independent paths they can take.

Here, an important milestone was Xi Jinping’s China Dream speech, in November 2012, which well before MAGA (Make America Great Again) coined the term ‘China Dream’ during a visit to the National Museum of China. Now, countries like Indonesia or Nigeria can try to follow the classical Western model of development, or China’s non-democratic, state led approach. Or, like Argentina and El Salvador, they can pursue the ‘Trumpian’ model that is taking a grip on Washington, but that is anything but a consensus.

Without going into day-by-day developments coming from the White House, the second Trump presidency can be seen as an early stage in the post-globalisation world order.

Globalisation was based on American economic and political strength and promulgated by the ‘Washington Consensus’ and the B-52’s of American capitalism (multinationals). Eventually globalisation ran out of steam, and events like Brexit, the first Trump presidency and the snuffing out of Hong Kong’s democracy shattered it. We are now in a multi-polar world where at least three large powers (EU, China and the US) do things increasingly differently (look at how they treat AI).

Uniquely, this Trump presidency represents an attempt to do something new and can be seen as an early chapter in the formation of the new world order, and to an extent its success depends on the will and the coherence of the groups of people that are driving the Trump project (from sectors like private equity, innovation and wealthy families). One stark difference with globalization is already clear. Globalization was built on the US being umbilically tied to much of the rest of the world, and vice versa, by flows of ideas, money, trade and people. In contrast, it now seems that Trump 2.0 relies on American exceptionalism, attempting to rise above the rest of the world, and in the process severing the relationships and ties built up since the end of the First World War.

For example, consider the words delivered to Canadians by President Kennedy in May 1961 ‘Geography has made us neighbors. History has made us friends. Economics has made us partners. And necessity has made us allies’ and how remarkably different they are to the way the Donald Trump has treated Canada.

In that context, the rest of the world may increasingly choose to avoid America, and the risk to ‘Exceptional America’, notably with the dollar as strong as it is, is that its financial power ebbs, in the way that of many other empires has. The template for this is expertly laid out in Barry Eichengren’s ‘Mars or Mercury’ paper that analysed the link between empires and their monies, though I feel that in the absence of obviously strong competing currencies, this thesis could take time to play out.

A more plausible side-effect of ‘exceptional’ America, is the advent of a new point of economic gravity, pinpointed at the UAE (United Arab Emirates). This is my ‘Fourth Pole’ thesis – that the UAE together with India and Saudi Arabia has the makings of a new pole of trade and commercial activity, with low regulatory barriers and that encompasses a potentially huge market (Prof Afshin Molavi calculates that there are 2.5bn bn people within five hours flying time of Abu Dhabi). The Mercosur trade deal between Latin America and the EU might also be the basis for a new trade corridor.

The other necessary outcome in a world where America is going its own way, is that Europe stops trying to contain Trump, and takes a far more aggressive stance with respect to its risk environment, notably Russia. The German election in two weeks’ time might be the start of that stance.

Have a great week ahead,

Mike

Humphrey

I’m glad to mention that my ‘GoldenEye’ note generated a lot of feedback, some of it cursing my good luck to spend a week in the Caribbean. To atone, I spent four days last week in the foggy cold of England, touring from Oxford to Manchester to the Cotswolds and finishing in London. Many of the places I visited are points of reference that I have known for a long time. Some have changed for the better (the Elizabeth line in London is very useful), some for the worse (this Manchester United team is indeed the worst ever), and some have not changed at all (the food at Pepper’s Burgers in Oxford is just as good as it was thirty years ago).

Economically and politically, Britain is worse off. Brexit has been a terrible mis-step, and the new Labour government is struggling to even diagnose the sputtering economy. Real-wage growth is feeble, productivity is at multi-decade lows, the fiscal deficit dominates policy making and the bond market is more troubled than when Liz Truss was prime minister. The only saving grace is that Britain isn’t Germany.

In foreign policy, while Britain is an active supporter of Ukraine and still a UN Security Council member, it is at risk of becoming lost geopolitically – Britain is stranded outside the EU and the special relationship between Washington and London is all but dead politically in the Trump 2.0 era.

However, Britain is good at remaking itself. I think that at some point it will have its ‘Brian’ moment when, to borrow from the Monty Python film (The Life of Brian), a political leader will emerge, haphazardly or by design, with the force of personality and ideas to right the country. Nigel Farage is not this person, and without being unkind, I am not sure that Keir Starmer is either.

It used to be the case that Britain didn’t need talented politicians, it had a large, expert civil service to run the country. Instead of ‘Brian’s’ it had ‘Humphreys’ after ‘Sir Humphrey Appleby’ the fictional cabinet secretary in the excellent 1980’s tv series ‘Yes, (Prime) Minister’. The series revolves around the art of non-decisions and the careful practice by civil servants of keeping elected officials far from the levers of power.

When the engine of the economy was whirring, the job of the ‘Humphreys’ was to keep politicians from putting a spanner in the works. Now that productivity is dead across the UK (below the US, Germany and France) due to a lack of investment in capital and skills, the country needs to be inspired by new ideas. Thankfully, two of them came along last week.

The first was the latest in a series of notes on the UK economy by the excellent LongView Economics. In brief their diagnosis is that Britain faces several, long-growing problems – to many ‘Humphreys’ or rather too much regulation and bureaucracy (government spending is at seventy year highs), the death of risk capital and the need to re-generate investment flows across the British economy and the financialization of the economy.

Two of the solutions flagged by LongView are the needs to reform the NHS and to cut bureaucracy across government. This might happen sooner than many think because the second inspirational idea to come out of the UK was the launch a week ago of the UK AI Opportunities Action Plan, which in effect was authored by the venture capitalist Matt Clifford with a little help from the likes of Sir Demis Hassabis. It is applied and well thought through enough that it could not have been written by civil servants. In a week where the USD 500bn Softbank/OpenAI/Oracle AI investment has grabbed the headlines, the UK AI Plan deserves much closer attention and in my view, is the best framework for an AI value chain.

Whilst there are fifty recommendations in the report, all of which have been endorsed by the government, the main ones involve ‘feeding’ AI models by making high quality data more available (changing copyright laws), accelerate investment in data centres and also set up an AI Energy Council to plan the energy sources to power the data centres. There are also plans for a national data library and for the use of AI in the NHS.

One striking element, announced this Tuesday, is the use of AI assistants to speed up public services, with data-sharing deals across siloed departments; and a new set of AI tools — dubbed “Humphrey”. The aim is to speed up and make the work of civil servants more efficient – with the stated aim of saving GBP 55bn (this is very ambitious and if achieved would cut significantly into the budget deficit).

The plan, at least, is ambitious. Whether or not the Labour government can implement this plan is very much an open question but at least they have in their hands a blueprint for investment and perhaps the beginning of something better for the British economy.

Have a great week ahead,

Mike

The Diplomacy Crash

US stock market valuations have only been as high as in 2001 and 2020, market concentration is more extreme than in the late 1920’s (the top ten companies now make up 38% of the market capitalization of the S&P 500 index), and money manager surveys show US households to be the most bullish on future returns from equities since the survey began in the early 1980’s.

So, given this precarious euphoria, when is the crash?

My response is that crashes come in unexpected places and times and one idea that has not had much coverage but that might become current is the idea of a ‘diplomatic crash’. By this I mean that a host of countries have invested diplomatically, or in terms of soft power, in institutions, partnerships and causes. The acceleration of a multipolar world by the second Trump presidency will crash the value of many of these diplomatic investments.

An example might be the ‘special relationship’ between the UK and the US, the seeds of which were sown by Roosevelt and Churchill during the second world war (Churchill coined the term in 1946), and later cultivated by Thatcher/Reagan and then the Bushes and Clintons with both John Major and Tony Blair. Today, it is very hard to see any personal chemistry, or philosophical common ground between Donald Trump and Sir Keir Starmer. If the ‘special relationship’ were a stock or even a crypto coin, its value would be at a historic low.

In more detail, the idea of the ‘diplomacy crash’ came to me the night before I voted in Ireland’s general election. Ireland is a very quirky, even eccentric country from a geopolitical view in that unlike many other European countries there is close to no debate in Irish politics on defence and security, and its defence capability is miniscule compared to benchmark countries like Norway and Sweden.

In that context Ireland, like many other mid-ranking developed countries, is about to suffer a diplomatic crash. It has, correctly, invested heavily in the UN and the rules-based order. Some of the pillars of this order, like the World Trade Organisation – effectively built by an Irishman (Peter Sutherland) – are in a state of dereliction. It may well be the case that the UN ceases to be effective in dispute resolution between states, world health policy and great power coordination.

In addition, together with Spain and Norway, Ireland has spent significant geopolitical capital supporting Palestine (all three countries recently recognized Palestine as a state). Here, it cannot be ruled out that a grand peace deal is made in the Middle East, between Israel, Egypt, the UAE and Saudi Arabia, whose goal is to create greater investment and commercial flows between these countries and strategically disable Iran, but whose outcome is to render the ‘two-state’ solution unachievable. This new, harsh reality would leave the humanitarian led foreign policies of many European countries well ‘off-side’, compared to the stance of the Trump administration.

Ireland is just an example here, and there are plenty of other crashes in diplomatic capital – Germany’s trade policy with China, and potentially Japan’s relationship with the USA, France’s relationship with Africa and in general the cultivation of the rules-based order by democracies.

In finance, when a market crash occurs, investors become structurally risk averse, run for safe assets and generally retract positions. This might be the same in diplomacy. The risk then is a more unsure, less engaged diplomatic world, and worryingly one where the international rule of law is ignored.

In Europe, reflecting the lessons of the euro-zone financial crisis, this may imply that EU foreign policy becomes more consistent across countries (though perhaps not yet unified) and more focused (Katja Kallas is perhaps the most forceful foreign policy chief that the EU has had). In addition, new policy coalitions and leadership groups will form, notably so in the case of the Nordic and Baltic states on defence and immigration.

The EU also needs to stop geopolitical hedging by its members. Hungary under Viktor Orban has become notoriously close to Russia, and whilst Serbia had tried to play both sides it seems more comfortable as a bona fide EU nation (it is an accession state).

Once Ireland’s election result is clear, the first task for its leaders may be to choose sides – solidarity with Europe and active participation in the EU defence effort, or a singular, eccentric relationship with the Trump administration.

Have a great week ahead,

Mike

Profiles in Courage

John F Kennedy, who died this week 61 years ago, is famous for many things, but a lesser known accomplishment is that he won a Pulitzer Prize for a bestselling book entitled ‘Profiles in Courage’, that told the stories of eight American political figures (mostly senators if I recall) who took morally courageous stands on issues that went against the views of their parties and popular opinion. An example was John Quincy Adams’ decision to break from the Federalist Party (over foreign policy).

Like all things Kennedy, the book was a dazzling success, but also had a few magical ingredients. It is generally accepted that Ted Sorensen, adviser and speechwriter to Kennedy, contributed much of the book, or in his own terms, he wrote ‘many of the words that made up the sentences’. Equally, the book did not make it through the formal entry process for the Pulitzer, but was nudged into the competition by Joe Kennedy, the president’s father.

As an aside, in the context of the recent presidential election, it could well be argued that Joe Kennedy was a Trumpian figure…or that Trump is simply following the ‘Patriarch’s; example (David Nasaw’s book of this title is very good). Joe Kennedy accomplished more as a businessman than Trump, but fell short in his political career. Instead, he groomed Joe junior(killed in the second world war), then John, Bobby and Ted.

One of Joe senior’s achievements was his appointment as American ambassador to the UK, but his term was cut short because of his perceived stance on appeasement. With some irony, Joe senior had encouraged the publication of his son’s Harvard thesis as a book.

‘Why England Slept’ queried the ‘soft’ stance of the British government towards Germany in the lead-up to the war and argued that if Britain had re-armed earlier and taken a more robust stance with Germany, the second world war may not have happened, or at least might have taken a different path (the book was a great success and the British royalties were given to the city of Plymouth which had been badly bombed by the Luftwaffe).

Though Robert Kennedy junior may now take the ‘Kennedy’ limelight, the message of JFK’s books echoes in today’s world. In a couple of years’ time, someone might write ‘Why Europe Slept?’ in the sense that Europe has let its guard slip on security and not built defence infrastructure to keep up with the threat of Russia.

In a week where a Chinese vessel is suspected of cutting a telecoms cable between Germany and Finland, when the first EU defence and space commissioner has been confirmed (Andrius Kubilius’ first task is to compile an inventory of Europe’s defence supply chains) and where an intercontinental ballistic missile has apparently been used on Ukraine, there is a sense that Europe is still not ready for the worst.

The idea of ‘profiles in courage’ is even more pertinent. In a multipolar world, where countries and companies have to ‘take sides’, where America will arguably become more transactional and less relationship driven in its foreign policy and, where democracy is being eroded from within and afar, moral courage will be at a premium.

One unfortunate example here is Olaf Scholz’ moral capitulation in calling Russia’s president last week, ostensibly to lay the groundwork for a peace deal. Scholz likely had the upcoming German elections in mind, but his call was rewarded with an intense bombardment of Kiev.

This has left Scholz even more discredited. Up until this week there was now a growing debate around his future as SPD leader and the prospect that he could be replaced by Boris Pistorius, the popular defence minister. Pistorius has declared that he does not want the leadership tole.

This is a pity for Germany, because having Pistorius in place as Social Democrat leader by the time of the election might boost the party and would also make a coalition with the CDU easier to form and more ideologically consistent. As it stands, the polls show the CDU/CSU with some 32% of the vote, the SPD on 16%, AfD at 19% and Sara Wagenknecht’s party at 7%. At that rate the CDU-SPD coalition might need to take on a smaller partner, but in effect Merz would be the dominant partner.

A Merz lead coalition could be a real change for Germany, could reignite its economy and remake its energy policy, and may turn it into a more robust geopolitical player vis a vis Russia.

My advice is that Merz, and his compatriots at the head of the SPD both read the works of John Kennedy.

Have a great week ahead,

Mike

Empire

Donald Trump will be president of the United States for a second time, defying those who thought his first term was an anomaly and who considered that the American people still care about the rule of law. He will preside over the 250^th anniversary of US independence, the next Olympics and World Cup.

This is an election result of such great consequence that it will decide whether America’s hegemony is renewed, or that its empire fades like so many others have done through the ages. Fittingly, I woke up to the news of Trump’s victory in Vienna, a city that knows a thing or two about empires. In that context, an interesting and possibly underread book is ‘The Hapsburg Way – 7 rules for turbulent times’ by Eduard Habsburg, known formally as the Archduke of Austria and now a career diplomat for Hungary.

Of Habsburg’s seven rules, the most important are ‘Believe in the empire, and your subsidiarity’ and ‘Respect law and justice’. Trump will likely not do well on these counts, nor does he score on ‘Be Catholic’ though the Catholic church has chased his coat-tails through the electoral campaign. He does better on ‘Get married and have many children’ and ‘Be brave in battle’.

The book is full of interesting snippets, such as that the first governor of Texas (in 1691) was installed by the (Spanish) Habsburgs. In that respect the only blemish in the book is the foreword, written by Habsburg’s boss Viktor Orban, who this week held court over his European counterparts in Budapest, in the wake of the Trump victory.

While I think that Trump will be much more disruptive for Asia and Europe, and that his presidency will see an unprecedented re-shaping of the Middle East, a great deal of media attention is devoted to his impact on Europe and NATO. Overall, the reaction is far too alarmist and the vision of world leaders cowering before Trump gives little acknowledgement of his and America’s vulnerabilities.

Despite this, with near comic timing, only hours after Trump’s victory was confirmed, the squabbling German government fell apart, a development that has been simmering for some time.

Germany will likely have an election next March, and this is good news. Scholz’ ineffective and indecisive government will be thrown out (Scholz may also be replaced by Boris Pistorius at the head of his party), and Germans will vote in a centre-right government, if polls are to be believed. There is very strong appetite on the part of German businesses to restart the economy, unblock planning laws and rethink energy policy. This much was very clear to me when speaking with investors and businesspeople in Hamburg (after Vienna).

If a new centre-right government transpires in Germany, this should re-engage the political engine at the heart of Europe between France and Germany. But there is a small chance that Emmanuel Macron will not be president of France in a year’s time. Macron, who this week compared Europe’s fate to ‘herbivore in a climate of carnivores’, is fantastically unpopular in France and it cannot be discounted that the Rassemblement will try to bring him down in 2025. Similarly, there is a risk that far-right parties in Europe are emboldened by the Trump victory.

Apart from the travails of the German and French leaders, there is a shift of power going on across Europe – in favour of Poland and Italy, and towards the Baltics/Nordics. The sense is that a Trump led US will bring about the end to the Pax Americana, which may initially leave Europe more vulnerable diplomatically, though ultimately it will become more independent (to America’s disadvantage). Arguably the loser here is the UK, stranded offside the EU, and at odds with Trump and his vice-president.

A Trumpian America, if true to the caricature, will leave Europe as the last bastion of democracy and independent institutions. This is a great challenge and one that most people are not ready for. In events I speak at, a trick question I pitch to the audience is to ask how many of them (usually accomplished, educated people) would enter politics – in most cases there are few volunteers. If European democracies are to be renewed, politics must re-civilise itself and to quote Eduard Habsburg, politics also needs more brave people.

Another area to watch is institutions. Donald Trump already politicized the Supreme Court and might well do the same with the Federal Reserve. On Thursday the Fed, oddly in my view, cut rates, but the press conference after the meeting was dominated by Chair Powell denying that he would resign if Trump requested, he do so. As America’s institutions may become more politicised, and world institutions like the UN and WTO become less relevant in a Trumpian world, Europe needs to ensure that the independence and competence of its institutions is pristine.

Returning to the topic of defense, perhaps the most interesting confirmation hearing (by the EU Parliament) of EU commissioners designate was that of Andrius Kubilius, the Lithuanian, first defense commissioner. His first task will be to deliver a paper (in 100 days from now) on the state of defense procurement, the integration of defense supply chains and the opportunities for a more intensive commitment to space technology. In his commentary, he revealed that a pan-European missile defense shield could cost up to Eur 500bn. So, we should brace ourselves for the issue of EU war bonds to pay for this.

To end this note with a very big picture view, in the context of the theme of the ‘Levelling’, Trump’s first victory was a wrecking ball to globalization. This second one shatters it completely and will try to remake America and the world order with a narrative and vision (‘tariffs’, ‘deportation’, ‘loyalty tests’) that will deglobalize. Politically, Trump has sold Americans a political vision based on the Leviathan (the people surrender their liberty to a singular leader in return for protection). Europe is still a ‘Leveller’ type system (bottom up democracies). Of the two approaches, I am with the Levellers.

Have a great week ahead,

Mike

Act of Union

There is a theory abroad that the British Empire was so vast and dominant, simply because a large country (England) was attached to a brilliant small country (Scotland). It is true that many of the individuals we associate with the advancement of Britain are Scottish – economist Adam Smith, scientists James Watt, Alexander Fleming and Alexander Graham Bell, and writers like Arthur Conan Doyle and Walter Scott. More recently, some of the more prominent political figures in Westminster have been Scottish – such as Gordon Brown.

This year is the tenth anniversary of the Scottish independence referendum, which whilst the motion for independence was defeated, set in train a groundswell in favour of independence and the resulting electoral landslide for the Scottish National Party in the subsequent general election. At the time of the referendum, the SNP was led by Alex Salmond, who died last week, and who was the founding father and driving force of the independence movement (and a subscriber to this note).

At the time of the referendum, there was great interest in the prospect of Scotland going it alone, and the way the Scots might dis-engage their economy from England was the focus of attention. In many respects the downfall of the independence side was that they became mired in an argument over the kind of currency arrangement Scotland might have, and the resulting impact that this could have on household finances. In the land of Braveheart, this battle by spreadsheet proved too much.

The independence referendum also brought into focus the kind of socio-economic model that Scotland might enjoy, and this spurred me to start researching the model of small, advanced states, a theme I have developed in collaboration with David Skilling over the years.

Simply put, our thesis is that while the likes of Sweden, Switzerland, Singapore, Ireland and the Netherlands are culturally very different they, and a handful of other small states are all highly successful. Alex Salmond used refer to the northern most small, advanced economies as the ‘arc of prosperity’.

Small-advanced states dominate the lists of ‘happiest nation, ‘most innovative’ and ‘most open economy’, and share a common set of factors upon which their success is built (strong institutions, a healthy regard for the rule of law, prioritisation of education and innovation for example).

Indeed, this ‘secret sauce’ tallies with the work of the winners of this year’s Nobel Prize in Economics, Daron Acemoglu, Simon Johnson and James Robinson, the body of whose works links growth to institutions and laws (the book ‘Why Nations Fail’ is worth a read).

One of the first occasions that David and I presented our work was with Alex Salmond, in Singapore, and since then David in particular has been an active adviser to the Scottish government.

My sense is that the death of Alex Salmond, and the near implosion of the SNP amidst a series of leadership crises (and the resurrection of the Scottish Labour party who have increased their tally of Scottish MPs in Westminster from 2 to 37) will gravely diminish the political momentum towards an independent Scotland. On the other hand, the limits that Brexit places on the UK in general will serve as one of several motivators for the Scots to go their own way.

One of the underlying theses behind the small state model is that they are adaptive and strategic – nimbly ducking around the imbalances of a chaotic world. To a large extent this is still true – the Nordic countries, as well as the smaller Baltic states have impressively upped their game on the security and defence front (Ireland has not), and Sweden and Finland have thrown off their neutrality.

In addition, and a marker of how policy is changing in the Western world, the Nordic state – once a near parody of tolerance – are adopting much tougher stances on immigration, and after too much patience, organised crime. If they are really canaries in the coal mine of world politics, this turning point suggests that in Europe, there is now little welcome for an increase in immigration.

To that end, having been in the vanguard of economic advancement during globalization, small, advanced states are at the forefront of dealing with the challenges of an intensely geopolitical world.

Have a great week ahead,

Mike

Another Tea Party?

The Boston Tea Party is an early example of how a trade dispute can reshape an economy (Boston) and foment political change. It is iconic enough that the first presidency of Donald Trump was prefigured by the rise of the Tea Party as a disruptive force in Republican politics.

With the presidential election not far off now, tariffs form the spear-end of Donald Trump’s economic strategy, potentially because he can implement them unilaterally (without the approval of the Senate). In addition, many of his acolytes, from Robert Lighthizer to Peter Navarro, are ‘trade’ obsessed, and have recently published books like ‘No Trade is Free‘ to underline the ways in which they would re-order the international trade system.

In addition, other members of the Trump entourage such as Robert O’Brien, the National Security Adviser (2019-21) has in the July edition of Foreign Affairs Journal invoked the idea that American can bring peace to a disordered world through ‘strength’. In this vision, strength comes in the form of 60% tariffs on Chinese goods and export controls, a message that has repeatedly been emphasised by Trump himself.

In that context, a second Trump presidency could begin with a trade war, and a verbal assault on the currencies of ostensible allies that have weakened in recent years, such as the yen. American consumers and potentially the bond market might pay the price of tariffs (we wrote last week that Trump wanted to fund the development of a sovereign wealth fund with revenues from tariffs).

Trade wars are generally not successful, and while Trump may have in mind America’s trade spats with Japan (1987), the weight of past trade disputes going back to the Smooth Hawley Act suggest that there are better ways to guard American economic power. China could respond with measures that cripple supply chains for at least a couple of years. In this scenario, a trade confrontation between the US and China would decisively shatter the axis of globalisation as we know it, and finally render the WTO (World Trade Organisation) obsolete.

A US-China trade war might have many other consequences.

One might be the rise of populous south Asian (and southeast Asian) from India to Bangladesh to Pakistan, Indonesia, Thailand and Vietnam, with Singapore as their organising locus. Many of these countries are urbanising and rolling out infrastructure, most of them need but distrust China, and in most cases aspire to closer commercial ties to the USA. Tariffs on China by the USA will accelerate supply chain de-risking by Western multinationals towards these countries, though this could well complicate their relationship with China.

A second consideration is Europe. The EU has been caught by surprise by the consequences of several Biden administration policies – the Inflation Reduction Act and the CHIPS Act – which illustrates that US international trade policy is usually made with a view to domestic politics. A second Trump presidency should be no surprise to Brussels, and there is a small but important team of officials working on a policy response to a potential trade war on Europe by Trump. Europe’s trump card may lie in its role as a partner with the US against China. It will be difficult for Washington to reshape trade relations with China, Europe and potentially Japan by taking each one on. Stymieing China is better done in collaboration with Japan and Europe, and Trump should really see the constraints of the policy situation that faces him.

A second Trump presidency will be different to the first in the sense that he has had time to prepare for it, and crucially, his supporters have had four years to concoct a policy strategy (‘2025’ seems to have dropped out of headlines). In the same way, a Harris presidency comes with deeper reserves of policy experts, and to a large sense on the international trade and economic outlook, the Harris case represents ‘more of the same’ in terms of the techn0-strategic economic policy that is currently pursued by the White House.

An idealised, and though I like the idea a lot, too lofty rendition of this policy is Walter Russell’s Mead’s September Foreign Affairs essay entitled ‘The Return of Hamiltonian Statecraft’ which argues for the very un-Trumpian notion of ‘enlightened patriotism’.

In this context, a Harris White House would use trade and investment policy to laser focus on America’s race with China for global supremacy. Driving Chinese economic and investment activity further inwards might be one goal, and ironically anything Washington can do to make Chinese public life more closed and repressive, the better (because it curbs innovation and wealth creation).

At the same time, the US and Europe, would both pursue parallel strategies of ‘strategic autonomy’ or what Trump refers to as ‘strategic national manufacturing’ focused on sectors like defence, new computing power (quantum, AI, data storage and management), batteries and new power sources and revolutionary medicine. Europe’s challenge is to find a way of reducing long-term energy costs.

Kamala Harris, who has trialled a few incoherent policies (taxes on unrealised capital gains, price controls) is likely to be more constrained in her fiscal policy – because her government is likely to instinctively focus more on tax and spending changes, for which she will need the help of the Senate (which in turn could tilt towards the Republicans). As such her fiscal policy will focus on not increasing the national debt, and like many other governments, encouraging the private sector to work with government to build out strategic technologies.

I am so far surprised that markets do not seem to price in uncertainty over trade policy, possibly because they are more focused on falling interest rates in the US, Europe and China. However, the next month will start to reveal how seriously financial markets take economic rhetoric of each of the presidential candidates.

Building Sovereign Debt Funds

One of the attractions of elections is that they throw up new ideas and policy proposals – and it is not unkind to say that one increasingly gets the impression of politicians throwing suggestions at the ‘policy wall’ to see what sticks. Aggressive tariffs on China and taxes on unrealised capital gains are two examples from the US.

One idea that Democrats and Republicans share is the proposed establishment of a sovereign wealth fund in the US. In the case of Donald Trump, his aim is to fund it with tariff revenues, whilst the Democrats conceive a sovereign wealth fund that might take stakes in firms in strategic industries, which is a very French idea (recalling the ‘strategic yogurt policy’ of 2005). The flaw in this particular idea, is that there is in fact no money to capitalise such a fund.

In stark contrast, I recall the last time Washington pondered a sovereign wealth fund was at the end of the Clinton presidency, when Treasury Secretary Bob Rubin had in a financial ‘end of history’ moment engineered a fiscal surplus (government earning more than it is spending). At the time, the sense was that surpluses would feed a ‘social security’ sovereign wealth fund, which would allow Americans to enjoy a prosperous retirement.

What is striking is that if you look at the history of America’s financial health, the Rubin/Clinton surplus is an anomalous blip. Since then, the US has registered nearly a quarter of a century of deficits, which irregardless of the level of growth of the economy, seem to get bigger (relative to the economy) every year. These burgeoning deficits are starting to take their toll on the US (and I should mention that many other large developed economies – Britain and France prominently so), as its debt level rises beyond 100% to GDP (expected to hit 122% in 2035). It is a very odd situation. In textbook economics, large deficits tend to exist in times of war, recession or crisis. As such, if any of these occurs, there will be scant room for governments to help the economy (and rescue plans may become a trial of strength of central banks).

That’s not all. Readers will sense that I am writing more and more about indebtedness, and it is indeed becoming a preoccupation of mine. The idea of the ‘Age of Debt’ is that debt is becoming pervasive, and as a factor will weigh on geopolitics, the tenor of political debates and the shaping of the financial markets of the future.

In that context, once we get beyond the rise of election campaigns and into 2025, governments will have to jettison dreams of sovereign wealth funds and instead subject themselves to debt sustainability analysis. It is akin to a household giving up a dream of buying a second home as their bank manager demands that the mortgage and credit card balance are paid off first.

Debt sustainability analysis is one of those arcane activities in economics, and I can count at least three friends who can run their own debt sustainability models, which is not something I should readily admit. The essence of debt sustainability analysis is that the future debt load (and its precariousness) of a country are driven by a set of factors – the rate at which a government spends, the inflation adjusted interest rate it pays, growth and demographics. These factors are inter-related – borrowing that is deployed to productive investment can produce growth and thus reduce the risks associated with debt for instance. Today, the rapid acceleration in the indebtedness of many countries, low growth and ebbing demographics are some of the factors that make debt increasingly unsustainable.

If that was a reasonably technical explanation, the best parallel I can think of to communicate debt sustainability is climate sustainability – or at least both sets of analysis point to a world that is heating up, and where there is relatively little reaction to this. Debt and climate sustainability analyses are long-term processes, and my sense is that governments gladly ignore them, until they become immediately problematic.

That is beginning to happen. France’s bond spread (over Germany) is elevated, and British bond yields are close to 4%. Neither country can afford to increase debt levels. The same is true for Canada. In the US, next February will see the installation of the new Treasury Secretary, and he or she will have the difficult task of telling the next President that there is no money in the kitty.

As such, the establishment of sovereign wealth funds is a distant, fluffy dream for most governments. A violent lesson here is that Ireland had a sovereign wealth fund in the early 2000’s, but it was swallowed up in the consequences of the euro-zone financial crisis, and is only now being re-established.

For those sovereign wealth funds that exist – in Norway or Saudi Arabia – the next trade may not be to buy quoted equities and private equity, but to either buy the discounted debt of developed countries when they have their sustainability crisis, or to engage in private lending to them. When that happens, a new shift in geoeconomic power will be under way.

Have a great week ahead,

Mike

JD Goes to Washington

I have twice shared a stage with J.D. Vance, which at the time of writing puts me one ahead of Donald Trump. On both occasions, Vance’s book ‘Hillbilly Elegy’(I managed to get a signed copy, for my mother-in-law) was seen as offering people a glimpse as to why working class America was switching their traditional allegiance from the Democrats, towards what they perceived to be ‘system-smashing’ politicians like Donald Trump. Indeed, to my own reading, a large section of Irish-America has recently made this political journey.

I thoroughly enjoyed Vance’s book, had widely recommended it, and would continue to do so. He has had a fascinating life, which I am sure will get ever more interesting. Somewhat ironically given the Trump political program, Vance’s success in life is testament to the role of institutions (US Marines and education (not unlike Barack Obama)) and in my view is an argument for greater government spending on education and more open access to elite education in the US.

When I spoke (at two separate conferences) with him, my unkind thought was that he expressed himself better – more thoughtfully – in writing than in the spoken word. That seems to be changing, and Vance has clearly crafted an ability to provoke. Much has been made of his intellectual journey to the extreme right of American politics, something that has become the norm as the Republican party has become shattered by Trump (a contemporary of mine – an elite soldier and former governor – has also veered off to the extreme right). As a result, the press is full of speculation on Vance’s views on the dollar and Ukraine.

Vance is in many respects the opposite of Trump in terms of his life story – he started poor, became a soldier, ‘pulled himself up’ through education and has now converted to Catholicism (thanks in part to the Dominicans). Trump had a privileged upbringing, disdains learning and the military (‘losers’), and could not possibly be more irreligious.

Curiously, the Catholic Church in America, which is much more conservative than that outside the US, appears to be attaching itself to the coattails of the Trump movement, a tactic that helps to explain why it is the largest, oldest institution the world has known.

Vance may now reflect on the role of vice-president, and what this will mean for him. In general, it is a political graveyard, populated by token political players. That Kamala Harris has not carved out a serious role in American public life is testament to this. There are, however, two examples of very effective vice presidents – George W Bush, who was more like a prime minister to Ronald Reagan, and Joe Biden, whose experience and vast range of political relationships meant that Barack Obama was tethered to the political establishment.

In this context, Vance, the critic of elites, is at an interesting point. Since ‘Hillbilly’ was released, he has been mixing more with the American elite, in the technology, policy and venture capital worlds. If he enters the White House with Trump, he will come up against the full complexity of the American power machine.

Here I recommend Robert Reich’s excellent book ‘Locked in the Cabinet’. Reich, a professor of labour economics, was appointed Labor Secretary by Bill Clinton, and the book recounts how his optimism and idealism left him outmanoeuvred by those who ‘really ran the world’ (Robert Rubin).

Another book that I know Vance has, is Chris Wipple’s ‘The GateKeepers’ which is. fascinating study of seventeen chiefs of staff to American presidents. Trump notoriously went through several chiefs of staff, but in many cases the chief of staff can be the most important player in an administration (Jimmy Baker is the most often cited example).

So, for all the clamour around Vance, he might well – like Robert Reich – find himself sidelined by the team around Trump. With the European press over-obsessing about Vance, this is where the real risk lies. The first Trump presidency was chaotic. The second will come armed with a mission to transform America, potentially along the lines of the Heritage Foundation’s Project 2025’. I will devote more time to this, but in short it is an aggressive plan to re-make American government (politicised), society and the foreign policy. As a recent article in Foreign Affairs put it, this will be an ‘Imperial Presidency’, shorn of the constraints that have shaped American public life for the past two hundred years.

To Europe, the US under Trump will look more like China – driven by a single, imperial leader, obsessed with the viability of domestic industry, slow to help allies and much more transactional in foreign policy, and will use financial policy in a more selfish way. Consistent with the end of globalization, there will no longer be an effort to transmit American values, a la George W Bush and Bill Clinton.

In short, it will be an America that few of us will recognise.

Have a great week ahead,

Mike