This morning at 7 AM, following a crushing victory in a late hockey game last night, I was entertained by Ian Bremmer, the president of Eurasia Group, a very impressive political scientist turned financial analysts with a geopolitical twist. I encourage you to visit Eurasia's web site and subscribe to its services if you are an institutional investor or work in a business with pressing needs to assess political risks. The Fat Tail is his newest book.
In essence, from my notes, here what Bremmer said this morning about the state of Capitalism today:
There were three shock waves that made the world move from a free market capitalism world towards state capitalism over the last forty years. The first wave came, even before the Reagan and Thatcher revolution, in the seventies, with the advent and surge of OPEC. Then came the rise of emerging countries in the last twenty years, especially China. And, finally, Sovereign Wealth Funds appeared and now occupy a front row seat in the investment world.
The collapse of Lehman Brothers in September 2009 only ultimately confirmed the failure of the free market capitalist regulated model in the eyes of many. And the fact that China is now the first country out of the recession also seems to offer further confirmation that state capitalism is a more efficient model than free market capitalism. Even if we do not have yet the clear demonstration that it is more efficient, it certainly appears, at least for now, more expedient.
Today China, Russia and the Gulf states, among others, have regained some power and this new reality, according to Bremmer, will help create a new world order in which:
1. We will observe the rationalization of capital flows as opposed to the globalisation of finance which dominated the landscape until very recently.
It is already the case in China and Russia. But it will increasingly be the case elsewhere as well. For instance, Abu Dhabi, rather than Dubai, will dictate going forward where the money will go in the Emirates and in the Arab world. Abu Dhabi had to save Dubai from its recent follies and we should thus expect, in the future, that increasingly political and strategic considerations will trump profit maximisation in the allocation of scarce financial resources. Money will flow into the regions from where it originates and will be used to address strategic concerns such as securing access to resources and building political alliances. Obviously this will ultimately have negative consequences for the US dollar and will lead to less efficient growth worldwide.
2. The world will be less bipolar as more power centers will emerge.
There will thus be much less willingness on the part of a dominant world power to enforce its global vision. Again, regional issues will dominate the economic and political agendas of these new power centers. China and the US will tend to remain in their own backyard much more than we would have expected them to do if free market capitalism had continued its march forward. This trend does not bode well for global coordination and global trade. As a result, for instance, a deal on a climate change treaty will be very difficult to reach. For the Chinese, who do not have much experience exercising hegemonic power outside of China and Asia, challenges will arise as they will increasingly become the target of terrorism as their power and influence grows in the world ex-Asia. I personally think that this lack of experience combined with the temptation or inclination of Chinese authorities to act unilaterally and to react to nationalistic sentiments whenever their interests are challenged or when they are provoked by terrorist acts will have unexpected consequences.
It will take a crisis and more shocks before real coordination takes place between the supers of tomorrow. This is not dissimilar to what followed the Great Depression. It took a while, and the election of Roosevelt in the U.S., before new institutions appeared to finally get the U.S. out of trouble and re-launch the country and the world on a permanent and sustainable growth path.
The immediate danger in the meantime is obviously that the Chinese demand more protectionism, more retribution against nations that do not respect China's economic and political objectives. The forced quarantine of a plane full of tourists suspected to carry the H1Ni virus illustrates the arrogance which is now developing in China. In the end, following the global financial crisis, the state has become more much dominant in economic affairs as survivors are those who were politically connected, not necessarily stronger businesses. The business-oriented Shanghai gang who used to also drive, at least some of the show, has been sidelined by Beijing which is now focused on creating jobs rather than promoting sustainable growth and long term wealth.
Economically, this power shift implies that China will soon pass a second stimulus package regardless of what is happening in the rest of the world. This package will focus on developing energy intensive infrastructure projects and on the economic development of the Chinese Interior. That this might lead to resource inflation and overheating on a global basis is beyond the need to create jobs for Chinese nationals. It may also mean, for instance, that dirty energy will likely surge regardless of the world's concerns for GHG emissions and climate change. Will there be demonstration in Chinese streets to protest against the consequences of these initiatives? Yes, pockets of protesters will cause headlines in western media but according to Bremmer their real political impact will remain very limited as Chinese nationalism will likely continue to demand a stronger China, not a more democratic Chinese government.
Tomorrow or in the next few days I will try to summarize Bremmer's views on the US and a few specific countries which present an interesting risk profile.