In the Mouth of Madness
My last post was a copout, but necessary for me to express where I think things stand without going off on a million tangents. I think that maintaining an ultra-cynical view on markets, and the economy, now is critical. Recent political events have injected a huge amount of emotion, and I dare say anger, into the economic and financial market debate. It’s tempting to jump in both feet first, but investors are ill served by letting their own views and biases steer their decisions. This will sound obvious, but it isn’t always easy to follow.
Sometimes, though, a cynical approach can only come after a cathartic release of your own opinion and views. This post does just that, and I am going to piss off a lot of people. So close your browser if you’re not interested.
Don’t be that guy?
I am the guy who will walk more than a mile in London, New York or Paris just to get that perfect triple-shot flat white. I am the guy who asks the bartender whether the bar has an IPA on tab, and might leave if it does not. I am the hooded-shirt wearing guy who hides behind the illuminated Apple in the corner of said coffee shop or bar penning a blog post, writing an excel sheet or perhaps my latest short story.
I am the guy who spent seven years in university to acquire two graduate degrees in economics. I am the guy who has studied in Denmark, Canada, Switzerland, and the U.K during which I worked with people from, literally, all corners of the world. I am the guy who has lived outside my native country for several years, and who speaks and writes English more fluently than I could ever do Danish.
I am the guy who works for a small services company with offices in the U.K. and the U.S, with its main client bases in the world's bustling megacities. I am the guy who wears the proverbial “white shirt” to work, and who sits across from a Columbian, and next to a Geordie, when I write my daily missive on the EZ economy. I am the guy whose job would be impossible without an interconnected and open world.
Finally, I am the guy who thinks that the U.K. decision to leave the EU is tragic, and who thinks that Mr. Trump’s comments on women and minorities were abhorrent during the campaign. At best, Mr. Trump is a blunt instrument who is more likely to do harm than good. At worst he is a demagogue who will tear the fabrics of U.S. civil society to shreds. Finally, I am also the guy who shivers in horror over the political “populist” movements that are emerging in Europe.
That’s not all I am, mind, but I am definitely that guy. And I am not ashamed of it.
The false dichotomy
Do not assume that the millennial "echo chamber" is out of touch with reality, nor that its members look down on their fellow citizens. For my part at least, I do not think that those who voted for Mr. Trump constitute a basket of deplorables. I do not like that many people feel ashamed admitting that they voted for him; or in the U.K., that they voted for the U.K. to leave the EU. Nor do I hold a grudge against my European friends in France and Italy who would consider putting their cross next to Le Pen and Grillo. I do not like the fact that these people are considered stupid in the mainstream discourse, or that the media often implicitly assume that they are. In short, do not believe everything our new swashbuckling political class is telling you.
The story after Mr. Trump’s victory, Brexit and the looming repeat of anti-establishment sweeps in Europe, is that incumbent politicians, and the people they represent, have lost touch with the reality of the increasingly disenfranchised middle class. The "Elephant chart" below is probably the best way to picture this, and has been going the rounds recently.
In the past two decades, income levels in the developing world have gone up as poverty levels have declined, and the upper echelons in the developed world have surged. The latter trend is partly because of globalisation. But it is also to a large extent thanks to the windfall of free money from monetary policy makers’ printing presses. Conditions for the lower middle class, however, have stagnated and the new political winds are a sign of their discontent.
It is inferred here that the upper/middle middle class, often well educated, city dwellers have done ok. And in any case, that they, in their self-reinforcing intellectual and elitist conclaves are unable to comprehend the plight of their fellow men. It is time, in other words, for them to pay for their sins of neglect. But do not mistake inattention, however, for lack of empathy or understanding. The dichotomy between ivory-tower residing cry-babies who don’t understand the reality they live in, and the down-trodden low-income middle class who have been broken by globalization is a false and unfair one.
While the workmen and –women in the lower-income middle class have been fighting for their existence in the face of a race to the bottom in wages due to cheap foreign labour and products, the so-called millennials have been waging their own wars. They have flocked to universities and toiled to earn their degrees only to realize that employers deem their skills obsolete even before the ink has dried on their certificates. Saddled with student debt they have congregated in the big cities in the hope of somehow magically stumbling into success. The reality, however, is that they have been paying more than half their net wages in rent, will never afford to buy a home in a major urban area—at least not without taking on an incredible amount of debt—and many have had to postpone household formation, or even moved back to their parents, to make ends meet.
This story has different nuances depending on where you look. Young people in Europe, for example, should feel particularly wronged by the idea that they have been cruising ahead on the shoulder of the low-income middle class. Many of them have not had an income at all of late! I doubt, though, that millennials, in general, expect or need a pad on the back. But they are now being made enemies of a political movement, which sees their adherence to openness and embrace of a global culture and economy as a betrayal. What else are they supposed to do? Where is their place in a world where borders are closed and economies can’t exchange ideas, goods and services. Who exactly is betraying who here?
It will be yuge
My main message is this: Our newfound political “heroes” are not up for the task, and they are leading us onto a dangerous path. They are engaged in a game of divide and conquer, which if taken to the extreme will curtail fundamental civil liberties, and I vehemently object to that.
In the U.S., it’s the “bad hombres” from Latin America, other immigrants, and wealth destroying free trade, which are to blame. Remove these, and the disenfranchised middle class will rise from the ashes and it will the 1960s all over again. In Europe, the refrain is similar with the added spice that the institutional architecture built up since WWII is being questioned too. After all, if we dismantled the EU and the Eurozone and everyone did their own thing, Europe would flourish, wouldn’t it?
Do you detect a pattern here?
It’s all about divisions and external foes. This is a relatively easy and simple ploy for politicians, but it seems like this latest attempt has morphed into the modern version of a political Blitzkrieg. One by one, countries are falling.
At this point, though, I also have to take a deep breath and realise that many of the people who welcome the recent changing political tide explicitly want fewer foreigners and immigrants in their country, no matter what the economic consequences are. That is their democratic choice and right, and we immigrants must be ready to leave if it turns out that we have overstayed our welcome. However, I openly admit I can’t see how we turn back the clock here. Curtailing existing migrants’ rights or even deporting large swathes of people cannot be done without compromising on fundamental civil liberties. And if you do so, you poison the well within and between countries. Is that what people want?
A fundamental question also is this; what the heck happens if it turns out that economic prospects remain dire even after the external behemoths of immigration and free trade have been vanquished? Where will people turn then?
Don’t get me wrong. I am all for challenging the status quo, and breaking shit. But we better hope that our new overlords get it right. On close inspection I am less than impressed with what I am seeing. But in fairness, I cede the podium to Steven Bannon, Mr Trump’s recently appointed political strategist, who lays out the grand plan in a recent piece published by the Hollywood Reporter.
He absolutely — mockingly — rejects the idea that this is a racial line. "I'm not a white nationalist, I'm a nationalist. I'm an economic nationalist," he tells me. "The globalists gutted the American working class and created a middle class in Asia. The issue now is about Americans looking to not get f—ed over. If we deliver" — by "we" he means the Trump White House — "we'll get 60 percent of the white vote, and 40 percent of the black and Hispanic vote and we'll govern for 50 years. That's what the Democrats missed. They were talking to these people with companies with a $9 billion market cap employing nine people. It's not reality. They lost sight of what the world is about."
In a nascent administration that seems, at best, random in its beliefs, Bannon can seem to be not just a focused voice, but almost a messianic one: "Like [Andrew] Jackson's populism, we're going to build an entirely new political movement," he says. "It's everything related to jobs. The conservatives are going to go crazy. I'm the guy pushing a trillion-dollar infrastructure plan. With negative interest rates throughout the world, it's the greatest opportunity to rebuild everything. Ship yards, iron works, get them all jacked up. We're just going to throw it up against the wall and see if it sticks. It will be as exciting as the 1930s, greater than the Reagan revolution — conservatives, plus populists, in an economic nationalist movement."
I fully understand if some Americans' hearts glow when they read this. Many have been looking for a way out and fundamental change. The call to arms above is a very well formulated battle cry. But if Bannon's strategy is built, indeed feeds, on the cowering and shivering hearts of others, what’s the point?
What the fuck did the Asian middle classes ever do to hurt America? It has worked 24-7 to create cheap products and technology, which have allowed U.S. consumers of all strands to prosper. And in doing so, the working people in Asia, and elsewhere, merely have tried to gain living standards which have been taken for granted in the western world for decades. I remember a time when the fact that the global economy had lifted billions of people outside the OECD out of poverty was a good thing in and of itself.
A similar point can be made about the low-skilled immigrants who have ventured to the U.S. to clean the toilets of Bannon and his mates, because no one else would. Are they to blame for the demise of the U.S. rust belt? Are we really building a narrative, which says that it is the fault of more than six billion people outside the OECD that we in the West have failed to redistribute the gains of globalization and free trade ? That sounds incredibly silly to me.
So what are Mr. Trump et al actually suggesting here? In a nutshell; substantial tax cuts, tariffs on trade and a big public spending program on infrastructure.
I am not sure it will work the way Mr. Trump hopes it will. The combination of a business cycle in its later stages, loose fiscal policy and a clampdown on free trade is the recipe for an inflation bonfire. As much as I like to believe in the long-term productivity enhancing impact of rebuilding U.S. infrastructure, I fear the project could capsize before it gets started.
In addition, the idea that building roads, bridges and viaducts can be a sustained road out of unemployment for those who have not worked since 2008 is a fantasy. It belies everything we know about the economy, especially when the idea is to administer this dose of stimulus with an unemployment rate of 5%, and almost eight years worth of ZIRP. There is a very high risk that the workers who get “sucked” into this experiment will be binned just as quickly when the economy falters. And then what?
Does Bannon really believe he can shield the American worker from the reality of global technology and labour supply? When will politicians stop lying to people? The Mexican manufacturing labourer is not the one stealing U.S. workers’ job, it’s the machine that will soon make all of them redundant which is the real threat! And before you accuse me of simply saying that they should upgrade to “white collar” skills, I remind you that this threatens all of us who only have our labour to sell to make a living.
It is in this context that it has been often said that the “globalists” have been mocking the lower middle class. But when politicians say that they can protect people from winds of technological change, they are the ones doing the mocking. I hear talk about a strategy of import-substitution, and I think to myself whether people have bothered to actually study how that worked out in Latin America when it was tried in the 1980s? It didn’t work, and when the time came to step into the breach of global markets the domestic industries were crushed.
You say lower taxes, no free trade. I say the opposite. Open up, face global competition and pay people a living wage to re-educate.
Until politicians realise, and support the fact, that workers today probably will have to re-train fully at least once through their working life, they will keep failing. To achieve this you do not push away the kale-eating tech geeks in Silicon Valley, but welcome, and tax, them. I don’t believe in big government, but reducing mounting and crippling inequality requires redistribution. I don't see any other way. If we lower taxes for the rich, and put our faith in a theory of tax stimulus written on the back of an envelope, we end up in the same cul-de-sac we are already in. We have to increase the size of the pie, and then distribute it more evenly. To me that is the only way to move forward. Finally, it would serve capitalists, managers and CEOs well to realise that a ratio of CEO/board compensation to workers’ wage of a million-to-one maybe is not in their best interest. If machines really are taking over workers’ tasks, it means that the owners of such machines—the capitalists—only will become wealthier. So how can we make sure that these gains are not concentrated on an ever-shrinking number of hands? This is not an easy task, mind, but it is what we must do, and I don’t think the solutions we are currently being offered will help one bit.
The main problem with Mr. Bannon’s fantasy as I see it, however, is that its a new sinister version of the White Man’s burden. I don’t know enough about Mr. Bannon and others of his ilk to know whether they are really racists. Mr. Bannon talks about a “darkness,” and draws parallels to the 1930s, invoking a sentiment of masculine bravado that is supposed to stir up the fighting spirit of the downtrodden American worker. If things work out, this could, in theory, be a world that is inclusive. But if it doesn’t, it is a world where AR15 wielding white males are the only invites, and where all other “soft tissue” will be liable for removal. This growing willingness, even eagerness, to push the Mad Max button and reset the system is absolutely crazy in my view. It it persists, it will come back to haunt us all.
The end of European history?
All the points above on the U.S. can be made in Europe too, albeit with variations. In many ways, the European economy, ex the U.K., has had a tougher time than its U.S. counterpart since the crisis and as a result the stakes are raised even further. After all, elections next year could put parties in power that would dismantle the EU and the Eurozone. Good riddance I hear you say. But are we really sure about that?
This is the part of the discussion where it is most difficult for me to keep my cool. I am a keen student of European history, and I am shocked to see the carelessness with which we are talking about European institutions at the moment. The lines on the European maps you see today are drawn in blood, which started flowing back in the 1400s. After the advent of nation states with Westphalia in 1648, more bloody battles were fought between sovereign nations, which culminated with the devastating wars in the first 50 years of the 1900s. We learned from those disasters and the interdependence between sovereign nations via the pooling of sovereignty, and decision power, in the U.N., WTO, NATO and EU were, in part, critically tied to the belief that it would reduce the risk of conflict. If you look at how far we have come since 1940s in terms of co-existence, I will simply not accept the view that this has not been absolutely critical for the European people.
The idea that we reshuffle the European project under the leadership of far-right political movements one step removed from not acknowledging the slaughter of Jews in the WWII scares the living hell out of me. The capacity for European countries to move from friendly disagreement to conflict is higher than many believe. Brexit has given us the first glimpse. The hardcore Brexiteers don’t just want to leave; they want to throw the EU into disarray as they do. Preferably, they would destroy the whole thing. After all, that would be the ultimate “I told you so” to serve up to the rest of the world.
The Eurozone deserves special mention here, partly because of the ire and hate the project is receiving. If only it was abandoned, southern Europe would sail into the sunshine on the back of devalued currencies. I disagree, but I also admit that the Eurozone is not a prerequisite for close “interdependence” between European countries.
My view in a nutshell, however, is this. We know that the EZ not a perfect currency union such as Mundell-Fleming has defined it. Those arguments were made back in 1999, and rehashing them now with more fervour makes little difference. Looking ahead, however, I think that risks are massively asymmetric in terms of leaving and breaking up the currency union. We know the chaos that would arise in the short run, but how sure are we of the promise that a leaving country would emerge as a new economic powerhouse, invigorated by nothing more than a one-off currency devaluation? I have serious doubts that it would work, and fear that the people such a move are supposed to help would suffer the most. As with Brexit, the act of leaving also carries huge risks to the union itself. A country that decided to pull the pin would have a strong political interest in seeing the whole project collapse as it did. What we have to ask ourselves is then what the relationship between European countries, and their politicians, would look like once the dust settled. It wouldn't be pretty I think
In the main, though, where many see divergence I see convergence. Europe’s four main economies all are rapidly ageing and have expensive pension and public social systems. They need low interest rates, and likely a persistent C/A surplus, to grow and maintain financial stability. This is what the Eurozone has delivered, at least since 2012, and I am not sure we could have expected much more.
In the mouth of madness
In John Carpenter’s horror movie from 1995 insurance investigator Trent slowly becomes insane as his search for missing horror author Sutter Cane takes him into a limbo between reality and fiction. If anything, this year has been one in which reality and fiction also have had a funny way of blending together. In the end, the world in Carpenter’s movie descends into chaos as Sutter Cane’s stories corrupt people’s minds. Our hero Trent escapes the mental hospital only to confirm his insanity by learning that he was the main character in Cane’s final novel all along. Given the way the political winds are blowing, I fear the difference between reality and fiction will become even more blurred going forward.
It’s always a good idea to step back from the brink following an emotional dissection of current affairs like the one above. After all, maybe things will work out in the end. I certainly applaud the idea of injecting life into the U.S. middle class and if the biggest economy in the world rebuilds its infrastructure, that can’t be a bad thing. Finally, and as a bridge to the return of normal affairs here at Alpha Sources, if your professional life, like mine, is in financial markets you're better off ring-fencing your personal views about the recent political change, rather than acting on it. If you don't, you could easily find yourself stuck in the mouth of madness.
 - I am an economist so we think about these things early
 - Don’t give me any bullshit about economics praying exclusively at the altar of the unchecked forces of free trade. Go beyond the Ricardo model in your textbooks and you will find plenty of theories that predict how labour in a developed economy lose out in relative terms under the conditions of free trade.
Copy/edit notes: In the first version of this essay I bafflingly named Trump's strategist Michael Shannon, who in Hollywood guise apparently hate Trump. Steve Bannon is the real strategist. Given that I am having a go at him, he deserves to called by his true name. The mistake has now been corrected.