Tuesday, November 20, 2012

A good election to lose

Courier article

I write this article on the morning after the US elections, as Barack Obama celebrates his re-election as president of the United States. I can't escape the feeling that, rather like the Conservatives in 1992, this might have been a good election to lose. In 1992, a little surprisingly, John Major led the Conservatives to a small victory, and the following September the pound was ejected from the Exchange Rate Mechanism. Whilst this was clearly a good thing for the British economy, it was just as clearly a very bad thing politically for the Conservative party, whose reputation for economic competence took such a hit that it has arguably not yet recovered, some twenty years later. I think that a similar sort of 'black swan' type event – in fact, several – lie in wait for the President of the United States, and I want to briefly indicate the sorts of things that might be lurking.

Firstly, the economic issues, which I have touched on in this column several times before. The Western economic system is bankrupt, and at the moment is persisting purely via a sequence of confidence tricks – that is, lots of measures, principally printing money, designed to keep confidence in the financial system going. If at any point that confidence is damaged, then people will start to seek a safer place to park their financial assets. In other words, debts will start to be called in, and instead of the value of any debt being an abstract item on a putative balance sheet, that debt will become a very real obligation. As there is not enough wealth in the world to balance out the existing debts, there will be defaults – that will make people more nervous, causing them to call in more debts, which will make more people go bankrupt, making people more nervous... Rinse and repeat until enough of the bad debt has been properly accounted for and a solvent economy – at a much smaller size than the present economy – emerges from the wreckage. Human nature being what it is, this is likely to take the form of some very visible event, like a stock market crash or a spectacular bank failure – and the person in power, whether innocent or not, will have to take responsibility.

Another aspect of the economic situation is the US government's own financial position. As a result of the huge level of deficits built up over many years – but massively accelerated over the last four – the US government is practically bankrupt. It has been able to fend off the implications of this situation for the simple reason that the US dollar remains, for now, the 'reserve currency' for the world financial system. In other words, for a great deal of international trade, especially oil, the transactions take place in dollars. The US government can therefore keep printing dollars because people need them, and there is a lot of 'wealth' in other government accounts that people do not wish to see collapse in value. However, that is not a situation that can or will last forever. Indeed, this aspect may come to a head very soon, as unless the US government agrees a new budget in the next few months, it will drive off a 'fiscal cliff' – there are some $600 billion worth of tax increases about to take effect, and if that is allowed to happen then it will have a severe impact on the US economy. There will be lots of coverage on this topic over the next few weeks.

Thirdly, an under-reported but major factor in our ongoing economic problems is the developing impact of Peak Oil. Ignoring the 'blip' in 2008 (when oil hit $150 per barrel) the price of oil has been significantly increasing year on year for nearly ten years now. The reason for this is simple – there is less oil available than there is demand for it, and that is because there has been no significant increase in the oil supply since 2005. Indeed, if you break the numbers down, the amount of oil available for export (in other words, the amount of oil not being used by the nations that produce the oil) has been declining by about 0.7% a year since 2005. This problem is not going to go away, it is only going to get worse, and for an indication for how it might affect the United States, just look at the coverage of 'superstorm' Sandy, and what happened there when the fuel supply was interrupted.

Of course, economic issues aren't the only ones that can cause problems to a President, although I suspect that they will be the major ones. The field of foreign affairs is also looking scarier as time goes on. Principally that relates to the Middle East. I tried to explain to a friend the other day why the situation is so bad, and simply tried to list the different actors and their motivations. I stopped when I had reached eight! The situation is obviously very complex, but it seems equally obvious that things like the accession to power in Egypt of the Muslim Brotherhood, and their shift from a pro-US stance to one that is, at the very least, independent and welcoming to Iran, will have significant long-term consequences. More broadly, the increasing level of hostility between China and its neighbours in the Far East is worrisome, and if the Chinese leadership elects a more 'hawkish' new President, that would be a dark omen.

As MacMillan once put it, 'events, dear boy, events!' are what govern political careers. It is quite possible that there will be one particular event that triggers a cascade of consequences bringing all of these issues to a head. Imagine, for example, that Israel launches an attack on Iran, triggering a wider war involving Saudi Arabia; that the oil supply through the Straits of Hormuz is interrupted, even if only briefly; that the resulting spike in the oil price causes many of our fragile financial institutions to pass over into bankruptcy; and that the US dollar – as a result of political hostility to the United States – loses its role as a reserve currency. I don't want to say that these problems will be impossible to solve only that, as I said at the beginning, if you're going to lose an election, this isn't a bad one to lose. Barack Obama's in-tray is unlikely to have much good news in it for many years to come.

I'll finish by sticking my neck out and making a bold prediction (containing just a smidgen of wish-fulfilment) – either at the head of a purged Republican party, or at the head of an independent 'Tea Party' ticket, the US will elect Sarah Palin as president in 2016. You read it here first...

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