Saturday, 18 March 2017

Of cars and tariffs, and Brexit fantasies

"The Germans won't want tariffs on their car exports to the UK", said my father the other day.

I have to agree. No-one likes tariffs, especially when they are used to having none. But it was his next comment that made me pause. My father's idea is that the EU will allow the UK to have tariff-free access to the EU's markets after Brexit in order to placate the powerful German car manufacturing lobby. He's not alone in this view: it has been repeatedly stated by Brexit promoters, both during the Leave campaign and since the vote last June.

The obvious rejoinder is that the EU (ex-UK) is 27 countries, not one, and although Germany is powerful it does not call the shots with regard to trade. Although a qualified majority vote is sufficient to allow the UK to leave the EU, a new free trade deal between the UK and the EU post Brexit would require the agreement of all 27 members, and in some cases sub-sovereign agreement too. The recent trade deal between the EU and Canada was nearly derailed by Wallonia, a sub-sovereign of Belgium.

Nor could there be a deal specifically between Germany and the UK regarding car exports. The UK is leaving the EU, but Germany is not. And members of the EU are not allowed to negotiate their own third-country trade deals. If it tried to enter into a separate agreement with the UK, Germany would be breaking EU treaties. However powerful its car manufacturing lobby is, undermining the EU is not in Germany's interests. The car manufacturers know this. To my knowledge, they have never suggested that Germany should negotiate directly with the UK, nor are they ever likely to do so. That is a Brexiteer fantasy.

Of course, Germany does sell a lot of cars to the UK. But the UK certainly isn't the destination for "most of" its car exports, as some Brexiteers have asserted. Full Fact, debunking Louise Mensch, gives us the figures:
Germany sells about 14% of all the passenger cars it makes domestically to the UK, a little over one in seven. (That makes up about 18% of the passenger cars it exports, a little under one in five.)
So - assuming the UK did impose a tariff of some amount on car imports from the EU - 18% of German car exports would suddenly become more expensive (unless German manufacturers absorbed the tariff as a hit to profits). UK consumers might not like this price increase. But just look at German cars sold in the UK. Mercedes, Audi, BMW.....they are luxury cars. Even the Volkswagen Golf is a status symbol. If British people want cheap runarounds, they don't buy German. They buy Japanese or American cars manufactured in the UK. German cars already command higher prices than these: it is hard to see that British purchasers of German cars are suddenly going to exhibit extreme price sensitivity because of an import tariff. Top-of-the-range luxury marques might even benefit from a price rise, since they are Veblen goods. And some German cars are manufactured in the UK - Minis and Rolls Royces, for example: these would not incur the UK's tariff at all if sold in the UK, though they would incur EU tariffs if exported to the EU.

But where do the rest of Germany's car exports go? Well, a lot of them go to the rest of the EU. In general, the rest of the EU is a much bigger destination for German exports than the UK. And the rest are exported to the rest of the world. According to Eurostat, in 2015 exports of new and used cars made up 11% of the EU's total exports. Of those, over half came from Germany.  Interestingly, the UK is the EU's second largest exporter of cars, at 12% of total car exports. This contribution to EU exports will of course be lost post-Brexit. The EU's trade surplus in cars versus the rest of the world (exports exceed imports by a considerable amount) will therefore fall somewhat. But Germany's trade surplus in cars versus the rest of the world will actually increase, since it is a sizeable net exporter to the UK. The chances of its UK car exports collapsing sufficiently to eliminate this effect is vanishingly small.

The largest export market for EU car exports is the USA, which in 2015 took 26% of EU cars. The US imports more German cars than the UK does. The EU has no free trade agreement with the USA, so sales of these cars incur the US's WTO "most favoured nation" tariffs, which are about 2.5%. The second most important export market for EU-manufactured cars is China, which also has no free trade agreement with the EU. Clearly, not having a free trade agreement is not a great obstacle for German car exporters. There is no particular reason to suppose that the UK imposing tariffs on imports of German cars - or Italian, French and Swedish cars, for that matter - would be a major obstacle either. Admittedly, grandfathering EU WTO tariffs, which is how the UK is likely to do tariffs in the short term, will cause some pain, since the EU's tariffs are rather high. But given the relative price inelasticity of German cars in the UK market, the pain is likely to be limited and short-lived. So Germany is not likely to take fright at the prospect of UK import tariffs. German manufacturers may moan, but the response from the German government is likely to be along the lines of "if you can cope with tariffs elsewhere, you can cope with UK tariffs".

Some have suggested that threatening the EU with a trade war - "if you impose tariffs on our Nissan exports we will impose bigger ones on your Volkswagen exports" - might secure tariff-free access. This is foolish in the extreme. The UK has far, far too much to lose.

When it leaves the EU, the UK will face the EU's WTO "most favoured nation" tariff of 10% on its entire car exports to the EU. In 2015, that was 57% of its total car exports. And British car exports, with few exceptions, do not carry the "luxury" premium of many German marques. It is British car manufacturers, not German ones, who have the most to lose from Brexit. It is British car manufacturers who have lobbied most heavily for UK trade with EU to continue to be tariff-free. And in any trade war over car exports, it is the UK that would suffer most. Ratcheting up tariffs on EU car imports could reasonably be seen by the EU as unfair competition and met with retaliatory action. In a trade war, those that have the greatest exposure suffer the most.

Sterling weakness, if it continues, would also raise the UK price of imported German cars. If the combination of depreciation effects with new import tariffs raised the price enough, German exports to the UK would fall. But just as Brexiteers like to assume that the UK can readily substitute cheaper rest-of-world destinations for the expensive EU after Brexit, so too can Germany. Germany's engineering is respected worldwide. If the UK made exports difficult, Germany would simply seek markets elsewhere. It can well afford the short-term hit to its net exports: it has already weathered worse in the Eurozone crisis. In contrast, even with the assistance of a debauched currency, UK exporters to the EU might find it difficult to find new markets. 57% of total car exports is an awful lot to relocate to lower-tariff destinations.

It doesn't take much fact checking and common sense to debunk most Brexiteer fantasies. This is simply the latest in a long line of myths, legends and outright lies that crumble when exposed to the harsh light of reality. Sadly, though, in this age of fake news and the dominance of opinion, facts and sense are massively devalued goods. The Brexiteers will discover in due course the folly of their ideas. But by then, it will be too late.

Related reading:

Game theory in Brexitland

Image from

Sunday, 12 March 2017

Game theory in Brexitland

"No deal for Britain is better than a bad deal", says Theresa May. Her Brexit sidekick David Davis appeals to MPs not to "tie her hands". And that master of flannel, trade secretary Liam Fox, says that leaving without a deal would be "not just bad for the UK, it's bad for Europe as a whole".

These three statements sum up the hopes of the Brexiteers. The idea seems to be that if the UK adopts a really strong stance in its forthcoming negotiations with the EU, the Europeans will be so horrified at the prospect of the UK leaving without any agreement that they will cave in and give the UK what it wants. Welcome to the Brexit game of chicken.

On the face of it, the UK government's negotiating principles appear sound: set out your red lines, make it clear that you won't tamely agree to everything the other side wants and that you will walk away rather than give ground on things that really matter. But if you are going to play brinkmanship, you really have to understand your opponent. The EU is well versed in this game - and it knows how to win.

So, how credible is May's threat to walk away from negotiations? Davis's intervention is clearly intended to make it credible. If Parliament can overturn her decision and send her back to the negotiating table, then her position is much weaker. On this occasion, therefore, perhaps they are right. Parliament cannot be allowed to veto a "no deal" exit. To do so would indeed tie Theresa May's hands. She must have the freedom to end negotiations without a deal.

But Parliament is the least of her problems. Theresa May's real difficulty is that she is dealing with a hardened opponent that is not afraid to take pain in order to get what it wants. And to make matters worse, she has a hard deadline. The UK will leave the EU two years after Article 50 is triggered. The deadline can be extended, but it would require agreement from all 27 EU countries. There is no guarantee that in the event of no deal, they would agree to extend the deadline. In fact, there would be a strong incentive for them not to do so. If negotiations ran to the wire, the EU would need to concede virtually nothing. All it would need to do is put its terms on the table and say "take it or leave it".

And if you think the EU would not do this, you have learned nothing from the last few years. In 2015, Greece thought it could negotiate a new deal with the EU. So it set out its red lines, made it clear it would not accept the EU's terms, and threatened to walk away from negotiations - and indeed, from the Euro - if it didn't get what it wanted. For a while, it looked as if it might follow through on its threat: the resounding "NO" to the EU's terms in the Greek referendum should have led to exit from the Euro. But when the European Council explicitly faced Greek prime minister Alexis Tsipras with a choice between accepting their terms or leaving the Euro, he balked. And at that moment, he lost the game. The Greek government's threat to jump over the cliff was exposed as a bluff.

From that moment on, the end was inevitable. In a bruising overnight negotiation, Tsipras conceded almost everything that his government had previously rejected. And since then, further concessions have been made. The "red lines" have been repeatedly crossed. The Greek government is tamely accepting everything the EU demands - because the only alternative is jumping over the cliff edge that they stepped back from in July 2015.

The lesson is clear. If you are going to play the cliff edge game, you must be prepared for the possibility that the other side will push you over. Especially if your opponent is the EU.

Of course, the UK has already decided to jump over the cliff. Indeed, that is what the negotiation is about. It wants to negotiate a soft landing. Clearly, therefore, a European Council "accept our terms or leave" confrontation is not going to happen in this case. But that doesn't mean that the UK has a strong position. It doesn't.

To understand this, we have to consider the nature of the beast. In theory, the negotiations could be limited to the terms of the "divorce" - the status of EU nationals in the UK and UK nationals in the EU, the division of assets, the dismantling of common agreements, the final bill for ongoing responsibilities such as pensions. Leaving the EU without agreement on these would be horrible for everyone.

The UK's attempts to use security, intelligence and the status of EU nationals in the UK as bargaining chips have already been criticised. In all of these, it is hard to see that the "cliff edge" game is remotely credible: unilaterally ending cooperation over security, policing and intelligence would be utter folly, while the humanitarian cost of deporting EU nationals would be appalling. I think it is unlikely that the EU will play brinkmanship over security and intelligence: the EU has as much to lose as the UK, so agreement seems likely early in the negotiation. And the easy way of defusing the "hostages" problem is for the EU to offer UK nationals right-to-remain unilaterally, and then dare the UK to deport EU nationals. The UK government is already facing strong criticism at home for its attitude to EU nationals: international opprobrium as well might be a bridge too far. Nor is the EU likely to go into an exit with no agreement about the 60bn Euros it says it wants from the UK. Once the UK was no longer a member of the EU or under the jurisdiction of the ECJ, the EU would have no power to force it to pay up. No, there will be a deal on all these matters.

But trade is an entirely different matter. The EU and the UK appear to be poles apart. The EU negotiators seem to be intent on keeping the negotiations narrowly focused on the terms of the "divorce" and kicking trade discussions into the long grass. In contrast, the UK government has said it intends to forge a "new customs arrangement" with the EU, though it has not as yet defined what it means by that. And it lays claim to tariff-free trade:
We do not seek to adopt a model already enjoyed by other countries. The UK already has zero tariffs on goods and a common regulatory framework with the EU Single Market. This position is unprecedented in previous trade negotiations. Unlike other trade negotiations, this is not about bringing two divergent systems together. It is about finding the best way for the benefit of the common systems and frameworks, that currently enable UK and EU businesses to trade with and operate in each others’ markets, to continue when we leave the EU through a new comprehensive, bold and ambitious free trade agreement.
Eh, what? The UK government thinks the UK can have the benefits of Single Market membership without actually being a member of it? This is not remotely credible. Zero tariffs on trade and a common regulatory framework are not a side effect of the Single Market, they are its very nature. It would not be in the EU's interests for a non-EU member to have the same benefits as EU members. When the UK leaves the Single Market, therefore, there will no longer be zero tariffs and a common regulatory framework. The costs of doing business with the EU will go up.

How much they will go up depends on what deal the UK government manages to do with the EU. I confess I am not hopeful. The EU drives a very hard bargain. So, what happens if May ends up saying "no deal"?

Leaving the EU with no trade deal would mean that the UK would immediately revert to "most favoured nation" (MFN) status under the World Trade Organisation's rules as far as the EU was concerned. Much nonsense is talked about this, mostly by people who don't know what they are talking about. The "Clean Brexit" economists at the Policy Exchange, for example, blithely say this:
“WTO rules” is often presented as “deeply damaging” and “the hardest of hard Brexits”. We disagree. Tariffs under WTO rules are relatively low and falling. We already conduct around half of all our trade under WTO rules - beyond the Single Market or other formal free trade agreements (FTAs) - with the rest of the world. Both the US and China trade heavily with the EU, under WTO rules and we can do the same. Already, our WTO-rules trade is not only the biggest part - it is also fast-growing and records a surplus.
Aarrggh. There is a world of difference between trading with countries under existing trade tariffs which have been reducing in recent years, and introducing new trade tariffs where currently there are none.

The potential impact on the UK's trade with the EU from introducing new tariffs is considerable. I've reproduced here the WTO's table showing the current EU MFN tariffs:

Remember that the UK currently faces no tariffs on trade with EU countries. Chemicals are one of the UK's principal exports to the EU: after a "no-deal" Brexit, their export price would rise by 4.5%. This might be offset by a further fall in the value of sterling, but that creates problems on the import side. Few manufacturers are immune from import price rises, these days.

These are, of course, goods tariffs. The picture for services is much less clear. The WTO framework for services is at best a work in progress: flawed though it is, the EU's single market in services is far more developed. The "common regulatory framework" mentioned by the UK government is one of the principal benefits of the single market in services. Immediately on exit, this would be unlikely to change much, though the UK government's plans to impose restrictions on the free movement of people will negatively impact services trade right from the start. But over time, as EU and UK law and regulation diverged, services trade would become more and more difficult. The UK is also a major exporter of services to the rest of the world: the US is its largest trade partner in services. Much of this is because it is used as a gateway to the EU by service industries, particularly financial services. Once the UK can no longer perform that function, those service industries might disappear for good. So reverting to WTO rules could cause not only services trade with the EU to decline, but also services trade with the rest of the world.

The EU's MFN tariffs are also currently applied by the UK on its trade with non-EU countries with which the EU has no separate free trade agreement. The UK enjoys WTO membership by virtue of its EU membership, so as part of the Brexit process it will have to negotiate separate membership of the WTO, including setting up its own tariff schedules. Although there are calls for the UK to unilaterally abandon import tariffs, it seems much more likely that the EU's current WTO tariff schedule will form the basis for the UK's own tariff schedule post-Brexit.

After a no-deal Brexit, the UK would have to impose on imports from the EU the same MFN tariffs as it imposes on imports from non-EU countries. If the UK's new WTO schedules were based on the existing EU ones, then the impact on some agricultural imports, in particular, could be rather high, according to a study produced for the National Farmers' Union in April 2016:
.....a tariff of 30-40% would be applied on wine and cheese - two items for which the UK runs a significant deficit with the EU (net-imports of about 2,200 million and 1,250 million euro respectively, see Figure 3.1). In addition, imports of several meat product items would become subject to tariffs that could exceed 30% and might be even close to 70% or 90%, depending on the type of meat. All in all, the UK consumer will face higher prices for many items that are imported, which will only alter, if the UK government negotiates preferential access with the EU when leaving the Union. 
Goodbye to cheap Prosecco, then. And that's without considering the impact of the UK's exclusion from the EU's "tariff-reduced quotas" - see the top RH corner of the table above for the likely excluded rate on agricultural products
There would also be WTO tariffs on trade with countries such as South Korea with which the EU has free trade agreements, since it is highly unlikely that these countries would allow grandfathering of EU free trade agreements. 

None of this is good news for the UK. They are not great for the EU either, but EU countries could be forgiven for thinking that the loss of one country from the trading bloc would not make a great deal of difference - after all, there are still 27 of them and they can all trade freely with each other, as well as with the rest of the world under existing tariff arrangements. The UK, however, would be facing new tariffs on at least 45% of its exports, and it also would be obliged to impose MFN tariffs on over 50% of its imports.

The truth is that May's threat to leave the EU on WTO rules is no more credible than Alexis Tsipras's threat to leave the Euro. Leading the UK over the cliff edge onto a pile of jagged rocks is not delivering the best outcome for the UK. She would pay the price for that folly at the ballot box in 2020, or earlier if she lost the support of her (already restive) back-bench MPs. She has no choice but to try to negotiate some kind of soft landing. So the attempt to stifle Parliament is, once again, wrong. She must be chained to the negotiating table, even if it takes a Parliamentary veto to do it.

But the EU can walk away. After all, if it does nothing, the UK leaves on WTO rules that are a lot more damaging for the UK than they are for the EU. So the EU holds the upper hand. And the EU likes to play brinkmanship, especially when invited to do so by a foolhardy government. So my guess is that there will be a transitional deal. It will be hashed out in a brutal all-nighter just before the Article 50 notice expires. And in that meeting, May will agree to every single one of the EU's terms - because although they will fall a long way short of the benefits the UK currently enjoys, they will be better than the alternative.

The game will play out for the UK just as it did for Greece and Cyprus. And if any other governments are thinking of playing chicken with the EU - be warned. You will end up as roadkill.

Related reading:

Greece: The Game Is On Again - Forbes
Greece, the EU and the IMF are dancing with death - Forbes
Tsipras in the crucible
Sowing the wind
UK Perspectives 2016: Trade with the EU and beyond - ONS

Image by Gerald Scarfe. 

Friday, 3 March 2017

Adam Smith's Destructive Hand

Adam Smith's "invisible hand" is perhaps one of the most misunderstood concepts in economics. It is usually interpreted to mean that when individuals all operate according to their own self-interest, their actions somehow combine to create a well-ordered, well-functioning society "as if guided by an invisible hand".

To be fair, this statement about the "invisible hand" (from the Theory of Moral Sentiments) does seem to mean exactly that:
[The rich] consume little more than the poor, and in spite of their natural selfishness and rapacity…they divide with the poor the produce of all their improvements. They are led by an invisible hand to make nearly the same distribution of the necessaries of life, which would have been made, had the earth been divided into equal portions among all its inhabitants, and thus without intending it, without knowing it, advance the interest of the society, and afford means to the multiplication of the species.
This should have been challenged long ago on the lack of counterfactual evidence. It is an assertion, not a fact. Nonetheless, despite the glaring inequalities in our world today, it could be true. The history of the command economies of the 20th century is not a happy one: attempts to equalise the distribution of resources created poverty for (nearly) all, and the natural human desire to seize resources for oneself at the expense of others was inevitably strongest among those tasked by the rest with ensuring equitable distribution. No socialist revolution in history has succeeded in raising the living standards of all by killing off the rich: but the last 20 years, in which "communist" states have adopted capitalist practices and the number of billionaires in developing countries has risen to an all-time high, has seen the greatest rise in living standards for the world's population in recorded history.

The problem with Smith's statement is that it gives the impression that equitable distribution is not only possible, it is inevitable. The "invisible hand" guides the human species ever closer to complete equality of distribution. Marx would have been proud of him. But I don't think this is what Smith meant. I think he meant that the best distribution of resources we can have as a species is achieved when each individual pursues their own self interest. Unequal distribution of resources is inevitable, but because it is not possible for the rich to hoard everything they have - since ultimately, hoarding is death - the poor benefit from the selfishness of the rich. That is the implication of this paragraph from Smith's better-known work, The Wealth of Nations:
It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our necessities but of their advantages.
The poor are fed not in spite of, but because of the selfishness and greed of the rich.

But that is only half the story. This, also from The Wealth of Nations, is the other half:
Every individual... neither intends to promote the public interest, nor knows how much he is promoting it... he intends only his own security; and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention.
For Smith, self-interest is inevitably benevolent in effect, whatever the intention. He does not consider the possibility that self-interest could have malevolent effects. Nor does he consider the possibility that short-sightedness and stupidity may have unexpected consequences. And this is because he is thinking in aggregates. Smith's "invisible hand" applies not to the individual, but to the group. The individual does whatever he wants: but the collective actions of thousands or millions of individuals together bring about a better society.

Here is Adam Smith's "invisible hand" at work:

(YouTube link for this video is here)

Beautiful, isn't it? Millions of individuals all looking for dinner. They are all pursuing their own gain, but they look as if they are organised and directed to create wonderful patterns. They fly as if guided by an "invisible hand". Note that we can see those patterns, but they, individually, cannot.

For Smith, people are like starlings. People pursuing their own self-interest fly as if directed by an "invisible hand", and together, unknowingly, make beautiful patterns. Individually, we cannot see the pattern of which we are part: but when we look back through history, we can see how patterns form and shape themselves from the actions of our forbears. Smith's observation is positive, optimistic, and for a swarming species like humans, accurate. So long as the majority of people are peacefully pursuing their own gain, the outcome for society must be beneficial.

But this is also the "invisible hand" at work:

(YouTube link for this video is here)

Millions of individuals, all looking for dinner - but this time, they make not a benign, beautiful pattern, but a terrifying, destructive one. Locusts are not the only species that can ruin an entire economy when they swarm. Some birds do, too. A small bird known as the "quelea" is feared all over Africa because it arrives without warning in huge flocks and eats everything in sight. The now-extinct "passenger pigeon" was a swarming bird that was feared by farmers in the American Mid-West for the same reason.

This is the part of the story that Smith omits. Humans are a swarming species. Swarms can be benign - or they can be destructive. And importantly, people do not know when they are swarming. Even if they are part of a very large movement of people that is feared by those in its path, they are still pursuing what they perceive to be their own self-interest. It's worth remembering, too, that when people swarm, an individual's own self-interest is to stay with - or join - the crowd. It is a brave person indeed who defies a crowd. And when people are caught up in a swarm, they behave in uncharacteristic and sometimes destructive ways. The "madness of crowds" drives berserker behaviour.

Malign swarms are deliberately whipped up by powerful individuals in pursuit of their own self-interest: the most destructive form of malign swarm is imperialist expansion (think of the Golden Horde, for example). But some swarms are destructive without being malign. The transatlantic credit bubble was a case in point: it was not deliberately whipped up to bring down the financial system, but it very nearly did so anyway. Everyone was pursuing their own interest, but collectively, their own interest, far from being benign as Smith assumes, was highly destructive. We do not see the patterns of which we are part.....

We do not yet know what triggers human swarming behaviour, though research is continuing in this area. But whether a human swarm is benign or destructive is a matter of perception. We don't see the starling swarm as destructive, because we are not being eaten. But the insects that the starlings are eating might (correctly) see the murmuration as a terrifying destructive force that aims to wipe them out. Similarly, people in China don't fear their annual migration home for New Year, which is the largest movement of people on the planet: but people in the West fear the influx of migrants from war-torn Middle Eastern countries.

The swarms we fear are those we believe could destroy our means of survival or wipe us out. And we have reason for our fear. Humans are a swarming species, and swarms can be destructive. Even though individually we may only be looking for a better life, the "invisible hand" is capable of guiding us to destruction.

Related reading:

Here is why economics is built on a monumental mistake - Evonomics
The Invisible Hand is dead! - Evonomics
The Wealth of Nations - Adam Smith
The Theory of Moral Sentiments - Adam Smith
Twitter storms and the madness of crowds - FT

Thanks to Matt and AFP for the videos, and Evonomics for the header image. 

I have corrected the mistaken attribution of the quotations in an earlier version of this post. 

Tuesday, 21 February 2017

UK inflation and the oil price

Inflation is back.

Here is the change in the consumer price index (CPI) for January 2017, according to ONS:

Well, this doesn't look too serious. CPI is barely reaching the Bank of England's target of 2%. It has been much higher for most of the last decade, and yet the Bank of England has kept interest rates at historic lows.

But consumer price inflation - the prices that people pay for goods in the shops - is only one side of the equation. On the other side is producer price inflation (PPI), the prices that companies pay for the materials and energy they need to produce goods and services. The picture here is entirely different, as this table from ONS's January 2017 producer price inflation report shows:

Annualised producer price inflation has risen dramatically in the last six months. It reached double digits in October 2016 and currently stands at an astonishing 20.5%. Most of that is due to sharply rising import prices, of which by far the most important is crude oil, the price of which has risen by 82% in the last year. The dominance of oil imports in producer price inflation figures is evident from this chart:

Rising oil prices in the last year have added 9% to producer prices.

But inflation is a rate-of-change measure: it tells you how fast prices are rising, but not where they started from. Just over a year ago, we were looking at this chart:

In October 2015, ONS reported an entire year of double-digit deflation in producer prices, due to a 40% fall in the oil price and significant price falls in other imports:

So we could regard imports as simply returning to a more normal price level after the unwinding of the oil and commodities bubble. But what is a "normal price level"?

It turns out that import prices and the oil price are joined at the hip. So there is no such thing as a "normal price level" that ignores movements in oil prices. This chart shows producer price inflation since 2002:

And this chart shows the price of Brent crude since 2002:

Even just eyeballing these, the correlation is evident. For the whole of this century, the oil price has been the single biggest driver of producer price inflation in the UK. And judging by the CPI chart at the head of this post, it appears to be a significant driver of consumer price inflation too.

The other major driver of producer price inflation in the last 6 months has been the falling sterling exchange rate. Sterling is down by 13% against the US dollar. This explains the apparent divergence between the rate at which the oil price is rising and the rate at which inflation (PPI and CPI) is rising. Brent is quoted in US dollars per barrel, so its price in sterling is rising faster than its dollar price.

However, the rising oil price is evidently not being significantly passed through to consumer prices. A producer price rise of 20% is resulting in CPI of less than 2%. In fact the chart above shows that none of the swings in producer price inflation this century have been fully passed through to consumer prices - including the extraordinary speculative oil price spike just prior to the financial crisis and the QE-driven oil and commodity price bubble of 2010-14. Clearly, businesses have chosen to absorb the costs rather than passing them on to consumers. So where have the effects of these price rises been felt?

This is part of it:

Note the inflection point in 2007. For the next seven years, real wages fell, and they are still barely growing. Producer price inflation was not passed on to consumers - it was passed on to workers, in the form of wage growth that failed to keep up with consumer price rises.

Producer price inflation was also passed on in the form of poor productivity. Rising energy costs are particularly destructive to productivity, since rising productivity by definition increases energy usage. The picture is one of businesses trying to avoid passing costs on to consumers by restricting both wage growth and energy use. We would expect this to show up as lower output. And indeed, this is what we find:

 (source: ONS Gross Domestic Product time series January 2017)

UK output fell off a cliff in 2007, then tried to recover in 2009-10 but was clobbered by rising oil and commodity prices. I have previously observed that the UK in 2010-12 suffered double-digit inflation in energy prices, which in my view was the principal reason why the UK economy flatlined. If the QE-driven oil and commodity price bubble was the principal cause of the failure of the UK's recovery, then the prolonged use of QE by the US to restore its own economy has had terrible consequences for the UK. QE spillovers are known to be inflationary for emerging markets, but it seems that there was also an indirect inflationary effect in oil-dependent developed countries, which showed itself as stagnant output, poor productivity and flat wage growth.

If this is correct, then the falling oil price of the last two years has been the single biggest reason for the UK's improving output and wage growth. But now the oil price is rising and sterling is falling (which amplifies the depressing effect of the rising oil price on the UK economy). The little boom is over. If the oil price continues to rise, I expect wage growth to stall and output to flatline again. And if businesses do start to pass on these costs to consumers, then the Bank of England will additionally come under pressure to raise interest rates. This does not look promising to me.

However, the point of this post is not to remind everyone that my middle name is Cassandra. It is to highlight the critical dependence of the UK economy on the oil price, and to a lesser extent on imported commodities. The Bank of England's monetary policy is fairly effective at discouraging businesses from passing on import price rises to consumers. But we pay for this through inadequate wage growth, low productivity and poor output. Would it be better if businesses passed the costs on? Would significantly higher inflation in the medium-term be a reasonable price to pay for improved output and wage growth? Those who argue for a higher central bank inflation target are in effect saying that it would.

Of course, there are other moving parts in the productivity-wages-output puzzle. For example, I have not in this post discussed the effects of public sector wage freezes and the entry to the workforce of previously economically inactive people such as single mothers, sick & disabled and older women. And I have completely omitted the effect of damaged banks cutting back productive lending in order to repair their balance sheets. But the impact of the oil price on the economy is widely ignored, not least because the focus is entirely on consumer price inflation. Yes, a central bank can dampen the effect of oil price rises on consumer price inflation. But it cannot protect businesses from rising costs due to oil and commodity price rises. Perhaps, in future, we should pay far more attention to the direct effects of imported inflation on the supply side, rather than obsessing about consumer prices. After all, it is the supply side that ultimately drives economic growth and prosperity.

Related reading:

What derailed the UK recovery?
Inflation, deflation and QE
Inflation report, February 2017 - Bank of England

Monday, 13 February 2017

The end of the road for the Co-Op Bank

The Co-Op bank is putting itself up for sale. It announced today that it will offer all of its shares for sale, including the Co-Op Group's 20% stake and the shares currently owned by a consortium of American hedge funds, institutional investors and small investors. The decision follows on from last month's disclosure that it was facing a full-year loss for the third year running and would fail to meet capital requirements set by the Prudential Regulatory Authority (PRA) for some years to come. It has almost certainly been made under pressure from the PRA.

The decision to offer the bank for sale was undoubtedly very painful for the Board. But it has been obvious for some time that the Co-Op Bank's recovery plan was heading for the rocks. Both the 2014 and the 2015 reports contained warnings from the directors, endorsed by  the auditors, that the bank may not be able to continue as a going concern. There is little doubt that the forthcoming 2016 report, due at the end of March, will contain a similar warning.

In fact the Co-Op Bank has been living on borrowed time ever since it ignominiously failed the Bank of England's stress tests in 2015. The capital plan it agreed with the PRA was high risk from the start, relying on very favourable trading conditions and no major shocks. Unfortunately, the reality has been difficult trading conditions and a series of nasty shocks, culminating in the Brexit vote last June. Low interest rates were already squeezing its profits, making it hard to rebuild capital: in August 2016, when the Bank of England cut interest rates still further, the Co-Op Bank warned that uncertainty following the Brexit vote posed a serious risk to its recovery. 

But low interest rates and uncertainty are not the only reason for the failure of the Co-Op Bank's recovery plan. Speaking on BBC News, the new Chief Executive, Liam Coleman, admitted to two other reasons.

The first is the sheer scale of the repair work needed, which he said was much larger than had been expected. The bank has done a lot of work to clean up its balance sheet, cut its costs and improve the quality of its IT systems. But it still has unacceptably high levels of non-core assets and is struggling either to dispose of them or build the capital to support them. Despite a major cost-cutting and integration drive, its cost/income ratio remains unsustainable at over 100%. And although it has now migrated some of its IT systems to a more robust technical platform, it is still a long way from implementing the resilient, efficient and user-friendly IT infrastructure needed to deliver a strategy based upon a major move to online and mobile banking. 

 And secondly, the burden of fines, litigation costs and compensation for past misconduct. Relative to its size, its PPI mis-selling bill is nearly as large as that of Lloyds Bank, and it is the only bank to be censured by the FCA for breaking the Consumer Credit Act in relation to mortgages. In 2015 it was censured by the PRA for serious failings in risk management. And in 2015, its former Chief Executive, Barry Tootell, was personally fined by the PRA and banned from working in financial services, along with the former head of Corporate Banking, Keith Alderson. Tootell, an accountant who had acted as CFO as well as CEO, was subsequently barred from membership of the Financial Reporting Council as well.

The level of misconduct at the Co-Op Bank may surprise some people. But the truth is that the so-called "ethical bank" has been anything but ethical. Quite why its customers have been so loyal to it is a mystery. The bank systematically ripped them off for years.

The proposed sale amounts to an admission that the Co-Op Bank cannot grow out of its problems. It needs to find more capital, and it seems that its existing owners are not able or willing to provide it. The question is whether an external buyer would be willing to provide it. Frankly, this is a tall order. The market for distressed banks is decidedly thin at the moment, and there are arguably more promising candidates than the Co-Op Bank for anyone wanting to attempt a turnaround. Europe is littered with failing banks, many of which are in better shape than the Co-Op despite their problems. The Co-Op, after all, has already had one private sector rescue.

There have been suggestions that the TSB might be prepared to take it on - for the right price. The TSB's management probably know better than any other potential buyer just what a mess the Co-Op Bank is in: after all, it was the failure of the Co-Op Bank's attempt to buy the nascent TSB that exposed the awful state of the Co-Op Bank's own balance sheet. They will drive a hard bargain. The sale price of the Co-Op Bank is likely to be extremely low.

There could be some poetic justice in the TSB taking over the bank that tried to buy it - though of course the TSB itself is no longer an independent entity, having been taken over by Spain's Banco Sabadell not longer after its flotation. But it would need to be extremely careful. There have been too many cases of sound banks taking over distressed banks, only to end up in serious trouble themselves: the TSB will no doubt be mindful of the fate of its former parent Lloyds Banking Group, and indeed of the history of the Co-Op Bank itself. Taking on a distressed bank is not to be undertaken lightly. The TSB would no doubt like the Co-Op's customers (if it can keep them) and whatever good quality assets exist on its balance sheet, but it won't be nearly so keen on its costs and its debts. Even at a fire sale price, the Co-Op Bank may be too rotten a morsel to swallow.

If sale of the bank as a going concern fails - as seems distinctly possible, given the scale of the risks for any potential buyer - then it could be broken up. Currently, this seems more likely than an outright sale. The FT reports that challenger banks (including the TSB) and private equity firms are expressing an interest in buying parts of the Co-Op Bank's portfolio.

Breaking up the bank would leave a rump business with its reputation shot to pieces and little in the way of decent assets. It might be better capitalised, but from a business perspective it would have an even bigger mountain to climb than it had before. It would be unlikely to survive for long as an independent entity. However, it would probably be easier for the stripped-down and recapitalised bank to find a buyer.

The FT suggests that the Board might also try to restructure the Co-Op Bank's balance sheet by swapping debt for equity and raising additional capital from new and existing investors. I don't believe it. If that were a viable alternative they would have tried it before putting the business up for sale. I suspect they have already sounded out major shareholders about a rights issue and been firmly told "No". And without a rights issue, a debt for equity swap would still leave the bank desperately short of capital. It is not a solution.

As a last resort, the Co-Op Bank could be wound up by the PRA. In my view this outcome is only likely if a buyer for the whole business still cannot be found after a fire sale of assets.

Whatever the outcome for the bank as a business, the Co-Op Bank brand is likely to disappear. There are a number of reasons for this. Once the Co-Op Group no longer has a stake, it may object to the bank continuing to use its brand name. And if the bank ends up entirely in private sector ownership, the Secretary of State may revoke the bank’s right to describe itself as “cooperative”. If  the bank is broken up, the assets will be absorbed into the buyers' own brands: the rump business may retain the Co-Op Bank brand name, but unless by some miracle it manages to rebuild a distinctive franchise with a solid reputation, a future buyer would be unlikely to be interested in paying goodwill for what is by any standards a badly tarnished brand.

This 144-year-old institution seems set to disappear from Britain’s high streets. Many will mourn its passing. But there is a silver lining. The continued existence of a bank that is cooperative in name but not in nature has severely hampered the Cooperative Movement's efforts to promote cooperative banking. Once this albatross has been cast overboard (and regulatory obstacles overcome), they will be free to create new, vibrant cooperative banks. The death of the Co-Op Bank could, perversely, become the source of new life in cooperative banking.

Related reading:

The Co-Op Bank: too high a mountain?
Co-Op Bank Interim Financial Report 2016
The "ethical" Co-Op
A tale of two banks|

Image: "Wheatfield with Crows", Vincent Van Gogh. Courtesy of the Vincent Van Gogh Museum.  

Sunday, 12 February 2017

France's shame

Today, the Guardian has a report on conditions in the refugee camp at Dunkirk, just up the French coast from the infamous "jungle" at Calais that was cleared at the end of 2016. "Women and children 'endure rape, beatings and abuse' inside Dunkirk's refugee camp" proclaims the headline. This is of course the shiny new refugee camp, supposedly built to international standards, that was opened less than a year ago.

It makes harrowing reading. Here is an excerpt:
The witness statement from another volunteer, who could speak Arabic, describes how a 14-year-old from Morocco appeared to have been raped and could not sit down and kept repeating that he felt so “ashamed”. 
Their account stated: “He didn’t want anything, he was only crying and asking for his mum. He had been badly beaten."
The worker also described how a young child had been sexually assaulted on site, leaving her mother so shocked she had been rendered mute. “We have also seen in the past a woman holding a seven or eight-year-old girl by her arm next to GSF [the charity Gynaecology sans Frontières has a unit on site] and apparently this child had been raped just before, and the woman was afraid to report it to police. She was there, standing silent refusing to report it.”
But hang on. Let's just look at the last two sentences in that excerpt again, shall we?

"....the woman was afraid to report it to police. She was there, standing silent refusing to report it."

This is in France, remember. Women and children in a refugee camp in a supposedly civilised Western country are afraid to report serious crimes to the police. Rape of a minor is a criminal offence in France, as it is in the UK. It carries a long prison sentence. But if the camps are so poorly policed that sexual assault of children goes unreported because of fear, the perpetrators will never be brought to justice. They will continue to abuse vulnerable people with impunity.

Does the Guardian lead on the failure of the French authorities to ensure that women and children in the camp are protected from abuse? No. It blames the UK.

"The fate of those stranded by the UK’s decision to limit taking child refugees from France," says its sub-headline.

No doubt some of these children have been affected by the Home Secretary's decision to end the Dubs programme after resettling only 350 children instead of the 3,000 originally planned. There may well be a case for reinstating the Dubs programme: I for one think the Home Secretary's decision was appalling and would like to see it reversed. I wish those pursuing a legal challenge every success.*

But the stories in this article do not have anything to do with the UK's responsibility for resettling child refugees. They are about the fact that France treats its refugee camps as if they are not part of France. Policing is completely inadequate, and the residents of the camps are effectively deprived of the normal protections afforded by French law. The UK is not in any way responsible for the determination of the French authorities to make life extremely difficult for refugees in the hope that they will go away.

If this story were about the camps in Libya where torture, rape and execution is an everyday occurrence, I might think that it would be right to lead on the UK's responsibility to resettle children from the camps. Libya is ravaged by war and has no effective government. But this is a story about a camp in France. France, a rich Western country with a stable democracy. France, a signatory to the Geneva Convention on Refugees and the European Convention on Human Rights.

To my mind, it would have been a lot more useful for the Guardian to shout about the fact that neither the UK government nor the EU authorities have been able to force the French government to improve its treatment of refugees. The UK government was instrumental in getting the Calais "jungle" closed down: but this was to stop illegal immigration to the UK, not to ensure the welfare of refugees. After the "jungle" was closed down, humanitarian organisations expressed concern about the fate of unaccompanied minors evicted from the camp.

The Dunkirk camp is also under threat of closure, along with other camps throughout Northern France. But closing down refugee camps is not an adequate solution. In October 2016, Médecins Sans Frontières warned that dismantling camps simply condemned refugees to living as vagrants. It called on French authorities to put on hold all plans to evict camp residents and close down camps until suitable alternative arrangements could be made. It is hard not to conclude that "suitable alternative arrangements" are the last thing the French authorities want to provide. They want refugees to leave, not take up residence.

 If the Geneva Convention on Refugees (pdf) means anything at all any more - which is looking increasingly doubtful - the international community must pressure the French government to improve policing and conditions in its camps and detention centres. Denying refugee women and children the protection of the law flouts both the letter and the spirit of the Geneva Convention. France's treatment of refugees who have sought safety inside its borders is a national disgrace.

Related reading:

When the world turns dark
In the bleak midwinter
Europe's shame
Horror story
What have we learned from history?

* Legal challenge to the Dubs decision on behalf of the refugee children of Dunkirk is being crowdfunded. You can find out more and make a donation at CrowdJustice here.

The handy map at the top of this post comes from the Daily Mail. It dates from January 2016. 

Tuesday, 31 January 2017

Seeing through the smoke

The last week has been extraordinary, even by the standards of these extraordinary times. A flurry of Executive Orders from the new President of the United States has thrown the global order into chaos and sparked outrage throughout the world.

But he has only done exactly what he said he would do. There is nothing in the Executive Orders signed so far that was not announced during the Presidential campaign, repeatedly and to loud cheers from his many supporters. The President was lawfully voted in by the people of the United States on the basis of the promises he made to them, and he is now following through on those promises. Frankly, I find this hard to criticise. If his decisions are illiberal, discriminatory and racist, that is because a substantial proportion of the American people are illiberal, discriminatory and racist. The problem is not the President, it is those who elected him.

I do not understand why those who cherish liberal values and human rights convinced themselves that President Trump did not mean what he said. Not to follow through on his promises would have been a major betrayal of those who voted for him. How could anyone possibly respect or trust a President who made promises on the campaign trail that he had no intention of keeping once in office? Honesty, loyalty and trustworthiness are the foundation of civic society. What price "liberal values", if they can only be maintained through bad faith?

There is a distressing tendency in the mainstream press to dismiss the election of an illiberal, discriminatory and racist President as "populism", as if that is somehow different from, and inferior to, democracy. The liberal elites that have been in the ascendant for the last half-century or so cherish a reified concept of "democracy" in which informed people choose their government on the basis of frankly altruistic principles. The good of all, not their own narrow self-interests, determines their choice: and for liberal elites, the "good of all" is self-evidently the open, tolerant, inter-connected world in which they believe. Thus, "democracy" must mean the triumph of liberalism. Anything else is not "democracy", it is something lower, something primitive, even animal. If only we could perfect "democracy", there would never be another fascist government, never be any more despised and ill-treated minorities, never be any more government-sponsored atrocities.  

But populism is democracy. Democracy does not guarantee liberalism, tolerance and respect for human rights. Democracy can elevate both saints and monsters to power. The fact is that the American people democratically elected this President. They voted for illiberalism, intolerance and racism. And not for the first time, either. 

Nor are they the only ones to do so. The global, integrated world order is unravelling fast, as country after country turns to fascist authoritarianism. I choose my words carefully. The Fascists of the past will not return: but the values and beliefs that they espoused live on. For seventy years, they have lain hidden, dormant like a volcano: and like those who live on the slopes of a dormant volcano, we have fooled ourselves that they were extinct. We are now learning how wrong we were. 

Except.....we are not. We are still focusing on the wrong things. The world erupts in outrage over the Executive Order temporarily banning refugees from the United States and imposing additional checks on visitors from certain countries. But this is a smokescreen. The Executive Order was clearly designed to create chaos and confusion. It is entirely malevolent, yes: it peremptorily removes long-established rights of movement and residence from certain minorities, chosen on the basis of an an entirely mythical "threat": it is discriminatory on both racial and religious grounds. It may well turn out to be unlawful under the American Constitution. But its primary purpose is to distract attention from what is really going on. And in that, it has succeeded all too well. 

On the same day as the immigration ban was imposed, the President signed two Memoranda. 
The first changed the composition of the Principals Committee of the National Security Council (though not the Council itself, whose composition is governed by law), removing the Chiefs of Staff and adding the President's Chief Strategist, Steve Bannon.

Bannon's world view makes fascinating reading. He frames America's relationship with the rest of the world as a religious war in which America bears primary responsiblity for marshalling the forces of the Judaeo-Christian West against a growing Muslim threat:
But I strongly believe that whatever the causes of the current drive to the caliphate was — and we can debate them, and people can try to deconstruct them — we have to face a very unpleasant fact. And that unpleasant fact is that there is a major war brewing, a war that’s already global. It’s going global in scale, and today’s technology, today’s media, today’s access to weapons of mass destruction, it’s going to lead to a global conflict that I believe has to be confronted today. Every day that we refuse to look at this as what it is, and the scale of it, and really the viciousness of it, will be a day where you will rue that we didn’t act.
It is not hard to work out what US national security policy is likely to look like, if these are the views of the man now driving it. 

In reality Bannon has been driving security policy for some time. The Memorandum merely legitimizes his authority. He had the President's ear from the start. And it is Bannon's world view that underlies the second Presidential Memorandum signed last Friday. That Memorandum requires the Defense Secretary, in conjunction with other members of the Cabinet and advisers, to come up with a plan to defeat Islamic State. The draft plan must be produced within 30 days. 

Also on the day of the immigration ban, the President had a phone call with President Putin of Russia. The Kremlin helpfully summarised the content of their phone call in a press release. This was their discussion of international affairs: 
Mr Putin and Mr Trump had a detailed discussion of pressing international issues, including the fight against terrorism, the situation in the Middle East, the Arab-Israeli conflict, strategic stability and non-proliferation, the situation with Iran’s nuclear programme, and the Korean Peninsula issue. The discussion also touched upon the main aspects of the Ukrainian crisis. The sides agreed to build up partner cooperation in these and other areas. 
The two leaders emphasised that joining efforts in fighting the main threat – international terrorism – is a top priority. The presidents spoke out for establishing real coordination of actions between Russia and the USA aimed at defeating ISIS and other terrorists groups in Syria.
Russia, remember, was instrumental in the recent destruction of East Aleppo at a huge cost in civilian lives. The Obama administration stood by, wringing its hands, while the city was flattened. That was bad enough. But the Trump administration, it seems, would have joined in the bombing. And will, in future.

The final piece in the puzzle is this Presidential Memorandum signed the day before the immigration ban. It directs the Defense Secretary to conduct a 30-day "readiness review" of the armed forces, and in conjunction with that, produce an amendment to the 2017 fiscal budget for "military readiness". And within 60 days, he is to submit a "plan of action" to rebuild America's armed forces to the level of "readiness" he considers necessary. Of course, rebuilding the armed forces was another of President Trump's campaign promises, so there are no surprises here. But this paragraph should give everyone pause for thought:
Upon transmission of a new National Security Strategy to Congress, the Secretary shall produce a National Defense Strategy (NDS).  The goal of the NDS shall be to give the President and the Secretary maximum strategic flexibility and to determine the force structure necessary to meet requirements.
No-one in their right minds would deny that a new National Security Strategy is desperately needed. But just look who would be driving it. The Chief Strategist now has a key role in national security. It is beyond doubt that Steve Bannon's views will significantly influence the new National Security Strategy.

So America is rearming, in anticipation of a new war in the Middle East. A much larger and wider-ranging war than the previous inadequate and inconclusive incursions in Iraq and Libya, which probably did more harm than good: removing the dictators simply left a void into which Islamic State stepped. The immigration ban on seven Middle Eastern countries should be seen as the precursor to the coming conflict. It is ostensibly "temporary", but then so is a war. And if the National Defense Strategy concludes that those countries pose a sufficiently grave threat to the US to justify military intervention - which to me looks like a racing certainty - then the ban would obviously be made permanent, for reasons of national security. You don't allow immigration, or even casual visitors, from countries you intend to invade.

Nor should we imagine that the coming war would be limited to those countries.The White House has already indicated that more countries could be included in the immigration ban. Personally, I would regard inclusion in the immigration ban as a statement of intent.

But how would such a war play out? After all, Islamic State is hardly your usual tinpot dictatorship. It is not even a coherent country. It is a diffuse network of enclaves in multiple countries, and its terrorist tentacles extend even into developed countries such as Belgium and France.

Clearly, strikes against IS strongholds would incur a terrible civilian price, which is unlikely to be remotely palatable to Western populations. Security is one thing, but genocide is another. And because IS does not hesitate to use civilians as shields, genocide would be necessary. So I hope - I really hope - that those now planning the defeat of IS can find another way.

This interesting piece in the FT might give a clue as to a possible strategy. Islamic State is critically dependent on oil. If Western forces, including Russia, can break IS's grip on the oilfields of Iraq and Libya, it might be possible to starve them out. Thousands would die, of course, but the US could blame IS for their deaths. President Trump's comments about "seizing Iraq's oil" should perhaps be seen in this light, though their acquisitive tone suggests there is another agenda too. After all, he is a businessman: takeovers are his daily bread.

So flatten anywhere in the Middle East where IS has a foothold, seize control of oil production in those countries and hand it over to Western oil companies (starting with Exxon Mobil - Rex Tillerson's appointment is no accident). Russia would need a cut, of course - probably the Caspian oilfields currently belonging to Iran.

The accommodation with Russia might require a larger sacrifice too. President Trump has already said he wants to reform NATO, and President Putin has made no secret of his preference for recovering the territories of the former Soviet Union. It is not beyond the bounds of possibility that the price for Russia's cooperation with the US would be that NATO withdraws from the former Soviet states, leaving them at Putin's mercy. The Baltic states clearly fear this.

President Trump has also made no secret of his intention to break up the EU: the EU's Guy Verhofstadt sees the President as one of three major threats to the bloc, the others being Islamic State and President Putin. If the EU fails, then Europe could perhaps end up being divided into a Russian zone and an American zone: where the line falls would be decided by a summit, rather than a Cold War. There would be some poetic justice in this: the continual conflicts in the Middle East and much of Africa are themselves to a considerable extent the long-run consequence of the former European powers deciding colonial claims by drawing lines on a map. And like their former colonies, the countries of Europe would pay tribute to their new overlords in the guise of "defence contributions" or "economic contributions". Such is the fate of vassal states.

It would be a mistake to imagine that US aggression would be limited to the Middle East. The White House's website cites North Korea as a serious risk justifying the development of a completely new, state of the art weapons system: it is telling that the President discussed Korea in his call with President Putin. And a few days ago, the White House warned China that it would not allow it to seize "international territory"in the South China Sea. Whether this develops into a full-scale war, or simply a simmering standoff like the Cold War, remains to be seen.

The present turmoil is the prelude to a major redrawing of the global political map and realignment of powers. In the past, such realignments have always involved war, as resurgent tribal interests fight to restore historic territorial claims: even the dissolution of the Soviet Union in 1991 was not conflict-free. There is no reason whatsoever to assume that this time is different.

Related reading:

Currency wars and the fall of empires - Pieria
Austerity and the rise of populism
What have we learned from history?
The immigration ban is a headfake and we're all falling for it - Medium

Also read Heather Richardson's Facebook post on the "shock event" and how important it is not to play the game.

Image from CNN.