Britain and the EU

A tragic split

How to minimise the damage of Britain’s senseless, self-inflicted blow

Managing the aftermath, which saw the country split by age, class and geography, will need political dexterity in the short run; in the long run it may require a redrawing of traditional political battle-lines and even subnational boundaries. There will be a long period of harmful uncertainty. Nobody knows when Britain will leave the EU or on what terms. But amid Brexiteers’ jubilation and Remain’s recriminations, two questions stand out: what does the vote mean for Britain and Europe? And what comes next?

Brexit: the small print

The vote to Leave amounts to an outpouring of fury against the “establishment”. Everyone from Barack Obama to the heads of NATO and the IMF urged Britons to embrace the EU.

Their entreaties were spurned by voters who rejected not just their arguments but the value of “experts” in general. Large chunks of the British electorate that have borne the brunt of public-spending cuts and have failed to share in Britain’s prosperity are now in thrall to an angry populism.

Britons offered many reasons for rejecting the EU, from the democratic deficit in Brussels to the weakness of the euro-zone economies. But the deal-breaking feature of EU membership for Britain seemed to be the free movement of people. As the number of new arrivals has grown, immigration has risen up the list of voters’ concerns.

Accordingly, the Leave side promised supporters both a thriving economy and control over immigration. But Britons cannot have that outcome just by voting for it. If they want access to the EU’s single market and to enjoy the wealth it brings, they will have to accept free movement of people. If Britain rejects free movement, it will have to pay the price of being excluded from the single market. The country must pick between curbing migration and maximising wealth.

David Cameron is not the man to make that choice. Having recklessly called the referendum and led a failed campaign, he has shown catastrophic misjudgment and cannot credibly negotiate Britain’s departure. That should now fall to a new prime minister.

We believe that he or she should opt for a Norwegian-style deal that gives full access to the world’s biggest single market, but maintains the principle of the free movement of people. The reason is that this would maximise prosperity. And the supposed cost—migration—is actually beneficial, as Leave campaigners themselves have said. European migrants are net contributors to public finances, so they more than pay their way for their use of health and education services. Without migrants from the EU, schools, hospitals and industries such as farming and the building trade would be short of labour.

Preventing Frexit

The hard task will be telling Britons who voted to Leave that the free having and eating of cake is not an option. The new prime minister will face accusations of selling out—for the simple reason that he or she will indeed have to break a promise, whether over migration or the economy. That is why voters must confirm any deal, preferably in a general election rather than another referendum. This may be easier to win than seems possible today. While a deal is being done, the economy will suffer and immigration will fall of its own accord.

Brexit is also a grave blow for the EU. The high-priesthood in Brussels has lost touch with ordinary citizens—and not just in Britain. A recent survey for Pew Research found that in France, a founder member and long a strong supporter, only 38% of people still hold a favourable view of the EU, six points lower than in Britain. In none of the countries the survey looked at was there much support for transferring powers to Brussels.

Each country feels resentment in its own way. In Italy and Greece, where the economies are weak, they fume over German-imposed austerity. In France the EU is accused of being “ultra-liberal” (even as Britons condemn it for tying them up in red tape). In eastern Europe traditional nationalists blame the EU for imposing cosmopolitan values like gay marriage.

Although the EU needs to deal with popular anger, the remedy lies in boosting growth. Completing the single market in, say, digital services and capital markets would create jobs and prosperity. The euro zone needs stronger underpinnings, starting with a proper banking union. Acting on age-old talk of returning powers, including labour-market regulation, to national governments would show that the EU is not bent on acquiring power no matter what.

This newspaper sees much to lament in this vote—and a danger that Britain will become more closed, more isolated and less dynamic. It would be bad for everyone if Great Britain shrivelled into Little England and be worse still if this led to Little Europe. The leaders of Leave counter with the promise to unleash a vibrant, outward-looking 21st-century economy. We doubt that Brexit will achieve this, but nothing would make us happier than to be proved wrong.

Update on Globalization

John Mauldin

Globalization is one of the dominant economic forces in the world today and given the politics of the world it is also one of the most controversial. Globalization has been one of the leading forces of overall global growth and is continuing to grow, albeit at a slower pace, yet the forces which would roll back or hinder globalization are increasing as well.

My friend Ian Bremmer, professor at New York University and founder of the Eurasia Group, is one of the foremost authorities on geopolitical trends in the world. In addition to the previous link, they have a comprehensive Wikipedia page. The Eurasia Group’s clientele base is a who’s who of large corporations, funds, and other organizations. They have an all-star group of advisors and personnel. They produce a large volume of materials on a wide variety of geopolitical topics.

Ian himself writes a weekly letter that hits my inbox on Monday morning and takes the form of a weekly briefing on global events. Two weeks ago Ian wrote a very solid essay on the issues surrounding globalization. This letter is normally seen only by his private (very-high-paying) clients, but he has graciously allowed me to make it this week’s Outside the Box. I think you will find it highly informative and well worth your time.

I am in Dallas, working away in a hopefully productive manner, but will stop a little early tomorrow afternoon to begin to prepare chili and all the fixings for my Brexit party tomorrow evening. The recent polls don’t make it look quite as close as it did last week, but things are rather fluid in the United Kingdom, so we’ll see who comes out to vote. And speaking of Brexit and parties, my friend Neil Howe, author The Fourth Turning and subject of last week’s Thoughts from the Frontline, is flying in to be here and sent me this interesting note:

Not really in my wheelhouse to cover this stuff hour to hour. But after a new poll came out 2 hours ago showing Brexit ahead by 1 percent, the FTSE and FXB turned south. If Brexit wins, or if it is even close, there’s going to be a lot of investigating about whose money is skewing the betting odds. It’s a multitude of small-money individuals on one side and a few big-money London financial houses on the other.

Don’t you just love conspiracies? They make everything so extra-special juicy… Have a great week. And now I’ll let you move right on to Ian’s essay.

You’re worried about protectionism analyst,

John Mauldin, Editor
Outside the Box

Update on Globalization

By Ian Bremmer

This weekend witnessed the worst mass shooting in the history of the United States. It will also surely be the most politicized. Some 50 dead at the hands of a self-declared ISIS supporter with an automatic assault weapon, in the midst of the most polarized presidential election the country has experienced in the post-war period.

The responses are divided strongly along political lines: the left focusing on gun control; the right on radical Islam. There’s no policy change coming: the act of terrorism was by all counts “homegrown” despite an ISIS pledge, and the Obama administration will avoid any politics that pushes towards further American intervention across the Middle East or a post-9/11 style Patriot Act redux at home. While domestic American lobbies against gun control are set in stone until the next election at least.

The greater impact will be on the campaign, where a large attack on the homeland plays into Donald Trump’s (temporary) “ban the Muslims” platform. Hillary Clinton’s hawkish tone on terrorism and us intervention made for a stronger statement than President Obama’s... But it’s still a bigger opening for Trump, especially since the attack, along with the recent mass killing in San Bernadino, happened on Obama’s Democratic administration’s watch. Doesn’t change my overall electoral call, where the demographics and weak GOP (political and financial) support still give Clinton a significant edge. But it will make identity politics over the course of the election – and after – far more toxic, with negative long-term consequences for both constructive political legislation and, as a consequence, market sentiment.


Given the short-term situation (enormous headlines, a horrible tragedy, but limited US and global impact) I’m not planning on writing this week’s update on the shooting. Rather, I’ve been spending quite a bit of time thinking about something bigger:


It’s single most important trend of the past half century. Simply put, the various processes by which ideas, information, people, money, goods, and services cross borders at unprecedented speed and with unprecedented depth.

Those processes are world-changing, and many of them are still accelerating. But just as the Soviet collapse didn’t bring the end of history, globalization hasn’t made the world flat. Today’s ever-smaller world still has as many peaks and valleys: more clearly visible to one another, but still every bit as sharp in relief. That in turn is creating fragmentation, as a wide variety of deglobalization trends gain currency and momentum. The two sets of forces are interlinked and yet rarely considered together. Proponents of utopia and dystopia are getting ever-louder… and talking ever more past each other.

I think it’s worth considering the arguments for both globalization and deglobalization. To stack up the most important factors on both sides of the aisle, and see where we end up.
First, let’s look at globalization:

Migration. The world is crossing borders at record speeds. International tourism receipts are increasing, on the back of a strongly growing global middle class and a steady rise in visa-free travel: above average growth for six years straight; and for the fourth year in a row, global tourism spend has grown much faster than merchandise trade. The rise of China is dominant here, with 120 million Chinese now traveling abroad every year; a trend showing no sign of slowing (interestingly, around the world, only tourism from the former Eastern bloc is significantly shrinking). It’s also developed world interest in ever-more global destinations: even North Korea’s repeated arrests of visitors has not deterred westerners from reaching as far as the hermit kingdom.

The same trend holds for international students. 2015 saw nearly 1,000,000 international students coming to the United States (by far the most important destination for higher education); a 10% year-on-year increase, and the fastest rate of growth since 1979. The rise of China again drives the trend; making up 31% of the total foreign student count (India has 14%, Korea 7%, and Saudi Arabia 6%).

Overall, international migration figures are sharply up; reaching 244 million in 2015, up 40% since the beginning of the century. 3.3% of the world’s population is composed of migrants; 50% of them come from Asia, and 2/3 of migrants live in either Asia or Europe. Not all of this travel is welcome. The fastest recent migration growth has been in refugees – generally forced by climate change and/or conflict, and creating the biggest refugee crisis since World War II. 1 in 122 individuals on earth has been forcibly displaced, for a total of 60 million people. That in turn creates the potential for greater and faster contagion of externalities such as terrorism and disease – the latest illustration of which being the rapid spread of the Zika virus (prompting a realization that normal tourism flows make postponing the Olympics of little use; very much an illustration of our points here on the tension between globalization and deglobalization).

There’s pushback to all this moving around. Some as a consequence of the refugee flows: walls being built, tougher border checks – leading to freedom of movement being curtailed. That’s been easiest to accomplish in areas where borders are well guarded – most notably Europe in response to the refugee crisis, with what’s amounted to a de facto suspension of the Schengen agreement – while across the Middle East and in Sub-Saharan Africa there’s been little effective policy response to growing northbound flows.

Open borders are also being filtered by growing interstate conflict. Take the tourism ban between Russia and Turkey. Iran and Saudi Arabia have cut off direct travel and restricted use of each other’s airspace; most significantly with the Iranian government forbidding its citizens from traveling to Saudi Arabia for the hajj. And, finally, there’s been some enforcement of travel restrictions out of broader stability concerns from authoritarian regimes; with Russia and China implementing restrictions on government and public sector international travel – an effort to maintain loyalty and control. But these are outliers. Overall, vastly more people are moving across borders. Freedom of the seas and air travel continues to be largely unfettered.
On balance, the impact of these trends has been unprecedented internationalization of ideas and culture – a strong facto r for continued globalization.

Communications. The communications revolution has made it easier for people of all walks of life and every corner of the world to be in touch with one another. Smart phone and internet penetration now stands at nearly 50% of the entire world population, and infrastructure improvements should continue to increase those rates in the coming decade. And, as anybody reading this knows, it’s a life changing technology, a real-time and near-completely immersive default connection of citizens to the rest of the world. Virtual networks have become a critical component – and, for many, the defining component – of personal identity.

To effectively restrict communication, governments would need to dominate technologies whose forced control is a double-edged sword – when social instability spikes, internet shutdowns work at best sporadically and risk leading to greater discontent and violence. Enterprising citizens and new technologies quickly find workarounds. Despite all the hype around China’s great firewall, efforts to completely shut out international communications are increasingly seen by government actors as unworkable. While, for their part, non-state organizations of every stripe use virtual networks to their advantage – corporations and non-profits with new collaboration models, the Arab spring and colored revolutions’ operators everywhere, and, of course, even terrorists. More common and larger-scale cyber-attacks (from Sony pictures to Spanish renewable energy companies) are ye t another example of this unprecedented “communication” flow; just as growth of the dark web has allowed for more effective connections in illegal activities – drug trade, human trafficking, and the like. For better and for worse, communications are becoming far more global and efficient.

The global middle class. The biggest “winner” of the past decades of globalization has been the rise of a global middle class. Vast poverty reduction in China in particular, and in emerging markets more broadly, has depended on access to international markets. 700 million have been lifted out of poverty since the turn of the century, with global poverty essentially dropping under 10 percent for the first time – even though most of the world’s new middle class remains financially vulnerable. The resulting empowered billions of people may not support the Washington consensus, but they’re no less interested in smartphones, cars, and the other fruits of globally-connected supply chains. Without an acute war-type crisis, few political leaders will attempt to override popular demands for global goods. This all means economic power becoming mor e evenly distributed around the world, even as global inequality compared to the world’s top earners has grown within countries.

Corporations. The rise of the global middle class, particularly in Asia, means that most Western-based multinational corporations around the world continue to see their most important growth as global (even as see technology-driven “onshoring” trends for production facilities makes a comeback). There’s also been a sea change coming from China itself, with beijing’s largest companies now embracing a strong interest in global expansion strategies as they try to replicate their domestic significance in the international market. Alibaba Group has made international expansion its top priority in recent years, on both the sales and hiring fronts. There’s also a globalization trend emerging in small and medium enterprises: the so called “micro-multinational;” mid-sized firms deploying new technological strategies to allow them acces s into new markets earlier in their growth process.

Indeed, the world’s most dynamic economic actors have a powerful interest in maintaining global connectivity even when governments falter. Google, Microsoft, and Facebook are doubling down on undersea cabling. Jack Ma has bought an English-language newspaper and listed his company in New York. Vodafone built a mobile payments system in Africa that is far superior to those in Western markets. Multinational corporations face challenges from slowing growth and more market volatility, but neither trend will derail an ever-increasing globalization trend.

Commerce. Alternative payment systems enable globalization. Paypal and Venmo allow global transactions to be made instantaneously. With Bitcoin, there’s no need for even an exchange process. Movement of money is becoming faster and easier through both legitimate and illegitimate channels. Then there’s the growth in real estate acquisitions by foreign investors, particularly in global cities like New York and London. Silicon Valley start-ups raising money from Saudi venture capitalists. And explosive growth in collaborations for commerce in the cultural arena – movie and music industries cutting across Hollywood, a nascent Chinese industry, Bollywood, and even Nollywood (in Nigeria).

Energy. Energy supplies long acted as a globalization chokepoint. Today, they are a driver of it. A nuclear deal has brought iran back as one of the world’s largest energy producers. Cuba reconciled with the United States in part due to Venezuela’s diminished energy clout (and of course limited ability to provide a socialist alternative to the Americans). The biggest shift is technology ending “peak oil;” an unconventional energy revolution quickly making the United States the world’s largest producer. All of which has decentralized production, stripping government control out of global energy markets and essentially ending OPEC.

Climate change. After decades of “north versus south” and climate-change skeptics holding sway over policy in a number of core carbon-emitting nations, there’s now growing international consensus on the scale of the challenge and the importance of policy redress. Decades of limited cooperation among central governments in a series of failed global summits – all the while extreme climate conditions created greater human impact – has led non-governmental actors to take up a leadership role in the climate change agenda, notably creating incremental but meaningful success in last year’s Paris meeting. It’s the first meaningful example of a global crisis creating progress (albeit to date limited) toward global governance.
Now, the forces of deglobalization:

Geopolitics. Geopolitical volatility is at unprecedented levels in the world today. The Middle East is both imploding and exploding due to failed models of governance, increasingly stretched economies, and fracturing security. Failed states across the extended Middle East, North Africa, and South-Central Asia; an unprecedented refugee crisis; and the world’s most powerful ever terrorist organization are all having profound spillover effects across those regions and into Europe (though, notably, that’s not been true of East or Southeast asia, and it’s certainly not true of the Western Hemisphere).

Then there’s the fact that the United States – globalization’s standard bearer for nearly 75 years – is now proving to be considerably more reluctant to be the world’s indispensable nation. That means less appetite for upholding global security, promoting global trade, or cheerleading global values. There’s recently been slightly more support among Americans for foreign policy intervention than during the historic lows of 2013, but the overall tendency is still less engagement and more unilateralism, if not isolationism (a solid majority of americans – Democrats and Republicans alike – thinks the United States does too much internationally, and wants whoever takes power in 2017 to focus on domestic rather than foreign affairs).
Meanwhile the world’s other largest economies – China and Japan – have neither the willingness nor the capacity to step into the breach.

All of which means the geopolitical condition I call the g-zero is intensifying, and weighing on a world that’s more de-globalized than at any point since the end of World War II. I don’t view today’s state of dis-equilibrium as sustainable, but it’s unclear whether what replaces the g-zero is a return to a more globalized geopolitical order or something even more fragmented. For now, I’d bet on the latter.

State capitalism. One of the most acute forces of deglobalization is the rise of state capitalism, with China – soon to be the world’s largest economy – dominated by a government player. Yes, Beijing is reforming. But China is growing faster than it’s reforming, and as a consequence it’s projecting its domestic model of government heavy-handedness on the international stage. That means the end of the global free market and its replacement with a model marked by bilateral, rather than multilateral, political and commercial ties, with Beijing playing a greater role in directly determining outcomes. That will lead to growing necessity for economic actors to align themselves with China in many markets, as well as a significant increase in the growth of strategic sectors – sectors in which companies need to be seen as strategically comp elling to governments in the countries in which they invest.

The growth in importance of strategic sectors is arguably the most important new dimension of this new global economy when it comes to impacting multinational corporations; which is happening in ways that are fundamentally opposed to a world meant to be marked by increasingly borderless globalization. The technology sector is a good example: in many countries (including Russia, and now increasingly Iran), local industries tend to flourish independently of (and shielded from) the government; but as soon as their growth, success, and strategic importance becomes evident, they’re taken over by government oversight. Whether this also happens in developed countries as technology gets added to the usual military-industrial dyad is one of the most important questions for the future of the global marketplace.

Global architecture & standards. Playing into the tension between (growing) state capitalism and (historically dominant) free market is China’s ongoing development of its own version of the Marshall Plan – displaying the world’s only global economic strategy driven by a trillion-plus dollars of investment into international infrastructure. China’s plan involves very different strings than the postwar American checks did: no interest in promoting the rule of law, free markets, and (US-led) global standards, but a rather simple “buy from Chinese state owned corporations, accept Chinese currency, employ Chinese standards.” Foreigners perceive both the American and Chinese models as threatening and are looking to create “third way” alternatives (think European regulatory approaches to technology).

The fault lines undercutting the prospect of globally unified standards are also at play within countries, as each private sector company seeks to push its own version of a global industry model in areas such as the internet of things: Tencent vs. Huawei, Apple vs. Google vs. Intel. Such competition’s only normal when McKinsey’s estimated gains of over $11 trillion in the next ten years. Tech companies like Google are already facing backlash in Europe, Apple in China, Huawei in the US. That competition will only get greater as the prospects of economic gains become more evident.

Populism/nationalism. Populist movements are expanding across the world, with the strongest and most sudden trajectory found in developed states. That’s a direct reaction from populations hollowing out economically and feeling faced with otherness culturally – it’s essentially the other side of the coin of the rise of the globalized middle class. It’s the Brexit movement and Euroskepticism more broadly. The rise of Donald Trump and Bernie Sanders in the united states. European far right and far left movements, now showing record levels of support in Austria, France, Italy, and beyond. It’s separatism in Scotland, Catalonia, and Northern Italy. It’s the erosion of rule of law and legitimacy of political institutions across East, Central, and Southeast Europe. It’s a growing belief that political outsiders aren’t welcome; that European supranationalism is a mistake.

Many of the core constituencies driving global integration and connectivity over the past 30 years have now abandoned it. The populist argument is that globalists have used powerful institutions to gut what these countries and their cultures stand for. Populists want more homogeneity. In the United States today, frontline politicians cannot be seen to favor free trade, let alone for the reform of global institutions like the United Nations; imf quota reform took intense pressure and came little and late. Europe is more interested in breaking up its own integrating structures than establishing new global relationships; not to mention its rapid abandonment of the principles of free movement in reaction to the refugee crisis. And, critically, as technology removes labor from the capital equation globally, these trends are very likely to expand to the world’s emerging markets &ndas h; a key trend playing against globalization in the coming years.

Protectionism. In lockstep with increased populism, protectionist sentiment is growing among many in the developed states, who don’t believe free trade benefits them personally. Yes, citizens have benefited from cheaper products. But real wages have been flat – in some cases even shrinking – and job opportunities in the developed world have become more limited. This was less of a problem in the 80s with the rise of Japan, but the rise of China has proved a larger shift… and the rise of technology greater still. That’s led to significant pushback against free trade, now making Transpacific Partnership (TTP) ratification at best a toss-up, and the Transatlantic Trade and Investment Partnership (TTIP) effectively a dead letter.

The process of negotiating TPP concessions for agriculture, cars, and other traditionally-protected industries has been protracted at best. Protectionist measures grew at their fastest pace since 2009 in 2015; led by India, Russia, and the United States. In latest data, for the first 10 months of 2015, governments around the world passed 539 protectionist measures, up from 407 in the same period of 2014 and 183 in 2012. It’s easier to erect trade barriers than to tear them down, as what starts off as “anti-dumping” can quickly become “protect our workers.”
Measures put in place in response to populist anger (Trump’s China penalties, Ukraine’s Russian embargo) are particularly hard to dismantle. Global free trade deals have stalled, giving way to bilateral and regional alternatives. All while the fora for resolving disputes – the WTO, th e ICJ – are being increasingly ignored by their principal actors (the US, China).

Capital flows & foreign exchange. There was a significant slowdown in net capital flows into emerging markets from Q4 2014 through Q3 2015 (and it’s likely Q4 2015 was just as bad). In 2010, net capital inflows into emerging markets amounted to 3.7% of GDP. By 2014-2015, emerging markets had a 1.2% of GDP net capital outflow – due to a fall in inflows and high outflows. There were a few reasons: the transition from Fed quantitative easing to anticipation of interest rate hikes and worries about the impact of lower commodity prices and slowing Chinese growth.

When it comes to foreign exchange, average daily trading volume in April 2016 was $4.6 trillion dollars, slightly lower than the $4.8 trillion of April 2015, with volumes little changed over three years. Beyond the cyclical uncertainties affecting trading volumes, there may also be structural factors at play, particularly an official rethink of the benefits of open capital accounts, and fast-money cross-border capital flows in particular. The greater respectability of capital controls is one of the most important trends in global finance today. At least for now, we’ve passed the peak of traditional financial globalization.

The global internet. The promise of the internet is souring as digital infrastructure fails to keep pace with the capabilities of states and malicious private actors. Major hacking incidents have become routine. Unlike in finance, the ability of governments to step in and stop a cyber panic, in which individuals would withdraw from online life and commerce, is untested.

But even more threatening that the asymmetric capabilities of non-state actors is the risk of internet fragmentation stemming from government actions. The Chinese are well known for their attempts at taming – and reshaping in their own image – the global internet. Beijing’s attempts at ending anonymity on the internet by seeking to force all users to have real-name registration will prove a strong pushback on globalization. The coming years will see far more top-down filtering and surveillance from Beijing. And many other countries are interested in taking from the Chinese model for their own security and safety. That means different surveillance models, different governance models, and different economic winners and losers.
What had been the clearest “win” for globalization in a single open internet is now fragmenting into a number of differently govern ed online spaces.
And some factors where the impact isn’t so clear:

Information. This is the most difficult issue to address on the globalization/deglobalization spectrum. On the one hand, the advantages of big data becoming a source of global economic growth are clear and driving game-changing business models in most every sector. So too, the ability for consumers to have access to information flows from all over the world, with virtually no (direct) cost to the individual. But filtering and segmentation of information is at least as important a global trend, and it firmly weighs on the deglobalization side.

Both of these trends are strong, and move in precisely opposite directions. There’s vastly more information out there. But it’s channeled much more among like-minded people (and in many cases marshaled – and profited upon – by top-down systems). The proliferation of news sources sends most people to media outlets that confirm their prejudices. This is a strong form of self-censorship. While when it comes to traditional censorship, control of information is a contest between censors and users that is likely to swing in both directions. One will gain an advantage, and then the other will respond. On balance, I’d say information flows have leaned rather in favor of globalization when it comes to data, and against it when it comes to how people actually relate to, and use, it.

Economic sanctions. Not only has the United States used sanctions extensively as a non-lethal tool of power-projection in the past few years, but this behavior has encouraged a range of other countries to follow suit; from the EU to Russia, Turkey, and Saudi Arabia. So, at first glance, the trend isn’t encouraging when it comes to keeping the world globalized. But it’s also becoming ever harder for americans employing unilateral coercive diplomacy to convince other important economic actors, allies as well as non-allies, to play along. That may ease us sanctions use a bit going forward. The United States is also starting to realize that its “weaponization of finance” will increasingly lead to blowback in an increasingly non-polar world, and hence isn’t sustainable in the long run. Finally, the opposite policy approach is bearing success: Washington has begun opening – rather than closing – doors, as evidenced by the Iran deal, the Cuba rapprochement, and the possibility of a warming up with Russia if a compromise is eventually found over Minsk.

Global trade. Lots of anti-globalization types talk about the diminishment of global trade, but it’s hard to make a call on which way trade is heading. On the one hand, trade volumes have flattened among advanced economies and are shrinking for emerging economies – subtracting about half a percentage point a year from the overall growth rate in the developed world since 2012. The reason to worry is that trade growth typically outpaces GDP by a wide margin; and after a post-recession rebound in 2010 to 12%, trade growth slipped to 7% in 2011, stagnated at 3% for the next three years and then fell below 2% for 2015 – well below GDP for the first time since 9/11 (the 1987-2007 average was 7.1%).

Global trade looks even more alarming when measured in price terms: having fallen 13% in 2015 to 16.5 trillion from 19 trillion in 2014 (though this reflects both exchange rate effects (a stronger dollar) and price effects (lower commodity prices)). China focusing on domestic demand rather than exports for growth is worth watching closely: if wheels start falling off Chinese reform, that’s the tipping point for a big hit to globalization.

But that diagnosis is complicated by issues that relate specifically to the way the Chinese business cycle is presently working. Global trade growth appears to have slowed because China is importing less in both price and volume terms (the price effects being directly related to the volume effects); this will in part reflect a slowdown in Chinese growth. At the same time, as China rebalances its economy away from investment and towards consumption there’ll be a decrease in import intensity because consumption (especially services consumption) is less import-intensive than investment. Furthermore, an increase in domestic technological capacity will mean that a larger portion of the value added in exports is added onshore in China (so goods wholly or partially made in China will cross the country’s borders fewer times). Not sure any of that is a structural move away from globalization.

Supply chains. Like global trade, there’s been a lot of negative talk… but not yet a structural change. Overall, I’d accept the argument that supply chains are going to get considerably shorter. From Adidas to GE, companies are producing closer to their markets, since labor is becoming a much smaller input cost in total production. Plus, 3D manufacturing and just-in-time production capabilities argue for smaller supply chains; as does greater decentralization in energy production and markets. Companies won’t need to ship as much. And so, there’ll be fewer disruptions in bringing goods to market, but also bigger investment concentrations in the West. Like global trade, supply chains are probably now a trend towards deglobalization, but it’s too early to make a clear call.
Who is winning?

First, a subtlety. One striking revelation is that the same countries that most depend on a globalized world (the United States, China) are also the ones leading the charge in harming globalization/creating deglobalization. Second, there’s a difference between one-hub globalization and multiple-hub globalization. Americans are used to one-hub globalization (the post-war world, particularly since 1990), in which Americanization and globalization were effectively the same thing. So you could easily mistake the rise of alternative hubs coexisting alongside the dominant hub as a retreat from globalization. That’s a fair point from a purely us perspective. But, by creating multiple networks, alternative hubs can actually increase the resilience of globalization, provided they are interoperable. In this context, it’s a long term positive for globalization that alternative countries are developing international architecture like Asian infrastructure investment bank, the BRICS bank, and the like. The AIIB’s willingness, for example, to fund projects the more conservative Asian development bank won’t because of pressure from developed market non-governmental organizations is arguably good for future globalization.

The biggest single takeaway is that things/processes/technology tend to be globalizing. It’s the people that aren’t. They’re resisting primarily because many don’t feel globalization benefits them. In part that’s a drive from the hollowing-out developed market middle class... That may soon extend to the emerging market middle class. And in part an increasingly powerful Chinese government that supports aspects of economic globalization but strong political deglobalization... that may soon become more challenged by globalization overall.

That resistance is only going to grow in coming years, as there’s very little that gives near-term hope in changing the calculations of globalization’s “losers.” Given that the losers of globalization aren’t being particularly effective at stopping it, and given that the processes I’ve identified driving globalization themselves aren’t diminishing… there’s a good chance the forces for deglobalization are only going to get stronger. And so, with an increasing push on both sides of the equation, we’re not likely to see a resolution.

For the coming years, i’d bet on more on momentum from the forces of deglobalization. More risk-driven volatility. More differentiation between sovereigns, sectors, and companies. Because as much as “things” matter, they’re ultimately shaped by governance, architecture, and “rule spaces”… all of which are becoming more deglobalized than not.

But I expect that’s not the end of globalization per se. Rather, it’s a downward cycle on a curve that ultimately swings up… the question being how far down it goes (and can it functionally break the curve). I hope not. But we’re going to find out son.

Brexit: Brits Lead Anti-Establishment Rebellion in European Departure

By: David Haggith

Regardless of the extent to which global fear mongers are right about the economic catastrophe that will hit every shore of the world after the Brexit, the most significant fact of the Brexit will be that the UK was the first nation to start the inevitable break-up of the EU. I have said since its beginning it cannot and will not hold together.

The Brexit vote is clearly the most massive anti-establishment groundswell in decades. We can thank the Brits for having a stiffer upper lip than the Greeks when it comes to risking the pain that will come from this life-changing, nation-changing international divorce. And, of course, there will be pain and lots of it from such a major but vital course correction, just as there will be a lot of pain when the entire global economy meets its inevitable collapse.

Already, that pain is arriving in torrents around the world, just as the rain poured down on England on Brexit voting day, so it is not as if the fear mongers were wrong. One has to expect that a section of the European continent falling off politically will create tsunamis.

Pain of the Brexit already felt everywhere

One of the biggest fears is that Brexit will create waves of similar break-offs from the already deeply fractured Europe. And overnight the run-up of market crashes on foreign shores looks a lot like 2008.

Before the day began in most of the US, Bloomberg reported the following list of major tidal changes around the world: (Here's an abridged version.)
  • British pound falls as much as 11 percent to $1.3229, weakest since 1985....
  • Japan's Topix index leads Asian stock losses, down more than 7 percent
  • FTSE 100 Index futures tumble 9 percent; contracts on Euro Stoxx 50 slide 11 percent
  • S&P 500 Index futures slump as much as 5.1 percent, the maximum move allowed
  • Yield on 10-year Treasuries drops 29 basis points to 1.46 percent, set for biggest daily decline since 2009....
  • New York crude oil retreats 5.1 percent to $47.56 a barrel, poised for biggest loss since February
  • Gold rallies as much as 8.1 percent to $1,358.54 an ounce, highest since March 2014....
  • Poland's zloty dropped by the most since 1993
The British pound's plunge is it's greatest one-day loss ever. The largest prior to that was the 1992 drop of 4.1 percent. That's when the pound was pressured out of Europe's exchange-rate mechanism.

The euro's fall overnight was its worst since it was introduced in 1999.

The E-Mini Dow fell about 700 points upon the news as of midnight. London's stock market plunged 8%.

Standard and Poor's has already stated that Britain may lose its AAA credit rating as a result of the Brexit vote.

The financial seismic shift is so great that Bloomberg also reported the following overnight results from the surprise 52-48 vote in favor of the Brexit:
"It's scary, and I've never seen anything like it," said James Butterfill, head of research and investments at ETF Securities, said by phone from London.... "A lot of people were caught out, and many investors will lose a lot of money." 
"Overall liquidity in the U.K. is drying up as we speak in a very rapid way," said John Woods, chief investment officer for Asia-Pacific at Credit Suisse Private Banking, told Bloomberg TV in Hong Kong. "It's highly likely that we see monetary easing in a coordinated response" from central banks across the world...." 
The euro slumped 3.2 percent, while currencies in Norway, Sweden and Turkey posted even steeper losses. Japan's currency jumped by the most since 1998 versus the dollar. 
"All hell is breaking loose,"" says Vishnu Varathan, a senior economist in Singapore at Mizuho Bank Ltd. "The only surefire is you buy yen, you buy U.S. Treasuries, you buy gold, and you sit tight.
...A gauge of where bank borrowing costs will be in the months ahead, known as the FRA/OIS spread, hit the most extreme level since 2012 on Friday in Asia....
"Equity futures, gold, U.K. bank and insurance stocks are all sounding off their market stress sirens....
"We would expect the Bank of England to immediately add liquidity in extra size today, and the ECB will follow. USD swap lines with the Federal Reserve may be used, and other central banks will be on alert."

Clearly, most pollsters were wrong, as almost all were predicting the Brexit vote would end with the UK remaining in the European Union. Markets around the world aligned themselves with those polls to be ready for the outcome. That makes the overnight financial disasters hard to assess in terms of how severe all of this is for the longer-term, as clearly there were a lot of positions being hastily corrected. Cooler heads may prevail in a couple of days after the dust settles.

Of course, I've been pointing out for a long time that many massive negative forces have been stacking up in the global economy. I've pointed out that, as more of those possibilities -- like a Grexit or Chinese crash or a Japanese crash ... or the Brexit -- pile up, the number of actual assaults against a failing global economy will increase. It's a simple matter of great odds stacking up against the global economy, which is deeply flawed at a structural level. It was always a matter of which orbiting bolide would hit the earth first.

Anti-establishment fervor behind Brexit vote seized the reins of power

Many politicians pointed to the anti-establishment nature of the vote, which had a lot of dedication behind it. Voter turnout was the highest it's been since 1992 with 72% of the voting populous making it to the polls in spite of severe rainstorms and flooding. Many thought those who wanted to leave the EU were stronger in their desire to leave, while those wanting to stay may have tended to be little softer and less apt to brave the inclement weather. Even before the polls closed, talk was that the bad weather would tend to help the cause of the more stalwart "leave" voters; but that speaks only of the passion for leaving and lack of passion for remaining.

The weather and how it would differently effect voters of different passion could be why the final vote turned out so much different from what pollsters had predicted. Only Scotland and London voted decisively in favor of remaining in the EU with London voting 60-40 in favor of staying in the European Union. The rest of the UK turned out a landslide vote for leaving the EU with some regions voting as high as 60% in favor of leaving the EU. That was a much stronger run for the exit than anyone (even the "leave" campaigners) expected.

One can safely say that London is the establishment, just as Washington is the establishment in the US. So, the establishment went solidly with Europe, while the rest of the country went solidly against the establishment.

The vote in Scotland could presage more troubles between Scotland and the rest of the UK as Scotland has long threatened its own exodus from the UK. Those feelings of leaving in order to stay with the EU may now be heightened.
Scotland's First Minister Nicola Sturgeon has said that the EU vote "makes clear that the people of Scotland see their future as part of the European Union." (BBC)
Obviously, the majority of Brits didn't care what establishment politicians Obama or Hillary had to say. Both had cautioned strongly against a Brexit, as had the International Monetary Fund. Donald Trump, on the other hand, supported the campaign to leave. It would appear that the same groundswell that is rising behind Donald Trump in the US is rising to even greater heights in the UK, willing to take on far more severe risks in order to escape the clutches of the European establishment.

It would appear Trump has more foreign-policy credibility than Obama because, while in Scotland, Trump said,
I would personally be more inclined to leave, for a lot of reasons like having a lot less bureaucracy. ... But I am not a British citizen. This is just my opinion. (Breitbart)
He seems more in synch with the British people.

Perhaps no one is more qualified to say what the British exit vote was all about than its lead campaigner, British politician Nigel Farage:
If the predictions now are right, this will be a victory for real people, a victory for ordinary people, a victory for decent people. We have fought against the multinationals, we have fought against the big merchant banks, we have fought against big politics, we have fought against lies, corruption and deceit. And today honesty, decency and belief in nation, I think now is going to win. And we will have done it without having to fight, without a single bullet being fired.... Win or lose this battle tonight, we will win this war, we will get our country back, we will get our independence back and we will get our borders back. (The Daily Mail)
Notice how closely these issues parallel Trump's.

The opposition more or less agreed with the anti-establishment nature of the Brexit vote and showed that the vote has the establishment's attention:
Work and Pensions Secretary Stephen Crabb, a supporter of ties to the EU, said the 'white working class' appeared to be voting out. 'In those areas which are strongly perhaps white working class there will be a strong vote for Out and that's something as a Government we need to respond to,' he said. 'Clearly, I think one of the features of this referendum are some of those social divisions and clearly as a Government, as a political class, all parties, we need to show that we're responding to that.'
Even though the Labour party was expected to vote 2/3 in favor of remaining,
Ex Labour leader Ed Miliband said a Remain majority would be 'a vote for staying in the EU, but not a vote for the status quo in this country. It's important David Cameron listens to that.... Whatever happens, the country will need to come together, there will need to be healing. It's a nation divided and the PM will have a big responsibility - particularly if it's a Remain win - to show he understands what people are saying on the Leave side of the argument. Labour faces that responsibility too. As far as Labour voters are concerned, there are two issues. There is obviously immigration, but beneath that there is a whole set of issues about people's lives and the fact that they don't feel politics is listening to them.'
So, an enormous change happened in a single day because people finally got so sick of the establishment that they would bear any risk and all the pain that will likely come from their decision in order to break from the status quo. The price to the European establishment for running its undemocratic course for forty years is a complete break away by one of its major nations and most vital economies.

And the cost to the one politician who was the leading champion of remaining in the EU -- Prime Minister David Cameron -- is that he resigned this morning.

But, of course, the European establishment is also shell-shocked, revealing the depth of establishment blindness toward the problems the establishment is creating:
Former Europe minister and Labour MP Keith Vaz told the BBC the outcome would be a 'catastrophe'. 'Frankly, in a thousand years I would never have believed that the British people would have voted this way,' he said.'And they have done so and I think that they voted emotionally rather than looking at the facts. It'll be catastrophic for our country, for the rest of Europe and indeed the world.' He added: 'The issues of immigration are extremely important, if you look at the campaign I think that there needed to be a much stronger campaign to stay in. (The Daily Mail)
Yes, immigration was one of the biggest issues -- a problem created and pushed upon the British people by Europe with complete ignorance or indifference to the costs, both cultural and economic, that come with shoving too many divergent people together too quickly. The price for that blind and hard-to-understand push, spearheaded by the apparently blind Angela Merkel, is the first major piece of the European continent breaking away.

The same backlash against that indifference and that "we know better than you" attitude is building here in the US. That's why we see all the establishment politicians within the Republican party equally surprised at Trump's enormous success over the many establishment candidates that the party put forward, all of whom were turned away like ripe garbage.

Where does the UK go now that Brexit has been determined by the angry masses?

A leave vote does not mean immediate cessation from the EU. Even the "leave" politicians recommend a path that will take a couple of years to complete the divorce. The European nations are so intertwined, there is a great deal of untying of the knot to do:
The government will also have to negotiate its future trading relationship with the EU and fix trade deals with non-EU countries. In Whitehall and Westminster, there will now begin the massive task of unstitching the UK from more than 40 years of EU law, deciding which directives and regulations to keep, amend or ditch. (BBC)
The Brits prove the establishment can be bucked and that it may pay dearly for ignoring those it considers the ignorant masses. Today, Europe crumbles.

The Latest Commitment Of Traders Report Shows Something We Have Never Seen Before

by: Hebba Investments


- The latest COT report shows a net speculative long position of close to 257,000 contracts, the highest we have ever seen.

- Additionally, total speculative longs are at 279,000 long contracts outstanding which is also the highest ever seen.

- This report closed on Tuesday, so it does not include any of Friday's tremendous price action in gold and so we expect current positions to be even more bullish.

- All of this is worrisome from a contrarian point of view, and we think investors need to stay disciplined here as there are few longs left to buy.

In the latest Commitment of Traders report (COT), we saw another week where, surprisingly enough, speculative longs continued to build on record-breaking position levels. This build in speculative long positions was despite the fact that the COT report closes on Tuesday and thus didn't include any of Friday's massive post-Brexit jump in the gold price - which means whatever positions we see this week that we should expect a more extreme position next week with gold $50 higher.
We will get a little more into some of these details but before that let us give investors a quick overview into the COT report for those who are not familiar with it.
About the COT Report
The COT report is issued by the CFTC every Friday to provide market participants a breakdown of each Tuesday's open interest for markets in which 20 or more traders hold positions equal to or above the reporting levels established by the CFTC. In plain English, this is a report that shows what positions major traders are taking in a number of financial and commodity markets.
Though there is never one report or tool that can give you certainty about where prices are headed in the future, the COT report does allow the small investors a way to see what larger traders are doing and to possibly position their positions accordingly. For example, if there is a large managed money short interest in gold, that is often an indicator that a rally may be coming because the market is overly pessimistic and saturated with shorts - so you may want to take a long position.

The big disadvantage to the COT report is that it is issued on Friday but only contains Tuesday's data - so there is a three-day lag between the report and the actual positioning of traders. This is an eternity by short-term investing standards, and by the time the new report is issued it has already missed a large amount of trading activity.
There are many different ways to read the COT report, and there are many analysts that focus specifically on this report (we are not one of them) so we won't claim to be the experts on it.
What we focus on in this report is the "Managed Money" positions and total open interest as it gives us an idea of how much interest there is in the gold market and how the short-term players are positioned.
This Week's Gold COT Report
This week's report shows another huge increase in gold speculators while shorts decreased their own positions once again.
As investors can see, speculative longs increased their positions by 11,716 contracts despite a fall in the gold price during the reporting period (from $1,287 to $1,273 per ounce) - which is fairly unusual. Speculative shorts continued to decrease their own positions for the fourth consecutive week by another 4,320 contracts.
The net position of all gold traders can be seen below:
The red line represents the net speculative gold positions of money managers (the biggest category of speculative trader), and as investors can see, we have surpassed the previous net position that we hit in 2011. To put some numbers onto this record high, the previous record net long position was in the week of 8/2/2011 and we saw 259,002 long contracts compared to 5,349 short contracts for a net long position of 253,653 contracts. This week's speculative positioning of 279,379 longs and 22,481 shorts works out to a net speculative long position of 256,898 contracts - a new record high.

Additionally, this new record high was achieved with a gold price of $1,272.60 per ounce and doesn't include Friday's tremendous jump in gold - so we're probably well over that record high. From a contrarian perspective that is VERY dangerous.
As for silver, the week's action looked like the following:
The red line, which represents the net speculative positions of money managers, increased by a little more than 10,000 contracts while shorts decreased by a little under 4,000 contracts - which pretty much mirrored gold. Just like in gold, net speculative silver positions hit an all-time high last week - and that also didn't include Friday's jump. We are truly at historical highs in both metals.
Our Take and What This Means For Investors
We will not get into Brexit talk and its implications for gold investors because that cannot be done with true justice in this piece so we are going to save that for the next piece - we will solely focus on the Commitment of Traders report for this article.
The most obvious thing that should be clear to all investors is that the positions of speculative traders are all-time highs at a net long position of close to 257,000 contracts in gold and 75,000 contracts in silver. As we have stated before, that is a worrisome sign and something that should make contrarian investors pause in their tracks.
We know some investors have been wondering why this matters since gold has been rising despite record-high position in the COT. We would remind investors that ultimately price movements always come back to new buyers or sellers, whoever has the advantage, in general, determines the price action. Of course, there is more to the gold market than the COT report (such as physical markets, ETF markets, etc.), but let's also remember with a weekly net change of around 15,000 speculative contracts (about 1.5 million ounces or $2 billion) and an increase in total open interest of around 21,000 contracts (about 2.1 million ounces or around $2.7 billion), these are very large figures in the gold market on a weekly basis and thus they matter. For comparison sake, the SPDR Gold Trust ETF (NYSEARCA:GLD), the biggest gold ETF in the world, added around 500,000 ounces in the same time frame.

Coming back to the COT report, our all-time highs in both net speculative gold position AND total nominal speculative long contracts outstanding means that we're really in uncharted bullish sentiment - at least amongst speculative traders. That also means that gold is certainly not a contrarian trade amongst speculators (being short actually now), and we are concerned there will be little in the way of new buyers entering the COT gold market as total speculative gold traders have already beaten the all-time highs. Maybe we can see some shorts cover since we're still above 20,000 speculative shorts (all-time lows are under 5,000 contracts), but it is hard to see that many more new longs enter the market.
In fact, we believe that the Brexit early morning spike in gold may have been primarily short covering.
Notice that the spike close to $1,360 occurred dramatically and in a parabolic fashion and then prices gradually fell. In fact, gold's Friday close of $1,315.60 was actually $25 lower than its midnight price and close to $40 lower than its high - gold actually declined on Friday. That is generally not a bullish sign and suggests short-covering and then a lack of buyers to propel the price higher - precisely what we'd expect from record-high speculative positions as seen in the current COT report.
Also, investors should remember the COT report is also based on Tuesday's gold price when it was trading at under $1,280 per ounce - based on Friday's closing, we are clearly above these historic levels.
Thus, while it's VERY hard to not be bullish with such a spike in the gold price, based solely on the COT report (again, we'll cover Brexit in our next piece), you have to be extremely cautious here. We think at this point investors should actually be decreasing gold positions in ETFs and miners such as the SPDR Gold Trust ETF (NYSEARCA:GLD), iShares Silver Trust ETF (NYSEARCA:SLV), ETFS Physical Swiss Gold Trust ETF (NYSEARCA:SGOL), and miners such as Randgold (GOLD) and Barrick Gold (NYSE:ABX).

Of course, keep core positions but don't get carried away with emotions here - gold is currently an extremely crowded trade and even the price action has all the signs of a short-term top. We think it is much more prudent for investors to take profits and expect a significant pullback here based on the COT positioning and wait for a better entry point.

The EU Capitulates

The bloc’s members have conceded that further integration may not be desirable.

Today, foreign ministers from the European Union’s six founding member states issued an extraordinary statement, declaring that they will “recognize different levels of ambition amongst Member States when it comes to the project of European integration.” This was a landmark capitulation by the major European powers, accepting the idea that uniformity across the bloc is impossible and nations can choose the terms of membership.

The ministers – representing Belgium, France, Germany, Italy, Luxembourg and the Netherlands – publicly recognized that there is discontent across the bloc. The statement said that they will “focus our common efforts on those challenges which can only be addressed by common European answers, while leaving other tasks to national or regional levels.”

This response to the decision of British voters to leave the bloc marks a profound change in the EU’s formal goals and could signal a transformation in the EU’s role. Until today, the EU — and many of its member states’ governments — were formally committed to boosting integration. From banking regulations to refugee policies to everyday matters like cellphone fees, Brussels was moving toward greater interconnectivity and uniformity across the Continent.

On paper, the EU has sought to limit states’ ability to bail out banks, cap fiscal deficits and set up a quota system for distributing newly arrived refugees, among other goals. And yet, the failure to respond effectively first to the financial crisis and then to the refugee crisis gave momentum to nationalist forces. The gap between the EU’s formal aims and the preferences of some national-level governments has been widening as a result.

But successive crises and the diverging interests of member states led to fatigue with Brussels and, in some cases, active opposition to the bloc’s policies. Some countries, like Hungary and Poland, began to ignore EU rules, with few consequences. The EU warned countries like Spain and Portugal time and again over their excessive budget deficits but failed to impose any meaningful repercussions. European officials, however, ignored growing signals that the bloc’s formal aims and the realities in member states were growing further apart.

The decision of a major European economy to leave the bloc has led European leaders to recognize that anti-establishment and anti-EU forces are gaining ground, and that as a result the bloc could be moving toward irrelevance.

The type of EU today's statement describes would ultimately reduce the bloc to a free trade zone. Given Germany’s hyper-dependence on exports, this was an urgent and desperate retreat to the one thing the Germans had to have: access to the European market. Germany, more than any other European country, is dependent on the EU, and its signature on this statement is an attempt to safeguard the country's economic interests in the wake of Britain's decision to leave.

With anti-establishment parties gaining ground in Germany, France, Italy and beyond, incumbent governments are also seeking to appease their voters, who are becoming more and more skeptical of Brussels.

Today’s statement is thus a capitulation and a recognition that much of the European public does not share Brussels’ enthusiasm for further integration. The EU has accepted that, if the bloc is to survive, each member will pursue its own policies and different levels of integration in the future.


Feeling low

Bond markets keep defying expectations

WHATEVER happened to the power of the bond markets? Bond traders were supposed to act as “vigilantes”, keeping spendthrift governments in check. But despite high levels of government debt, they have not been selling bonds, pushing yields higher. In fact, the cost of government borrowing is as low, or lower, than it has ever been. In many countries, investors have driven the price of government bonds so high that they are, in effect, paying for the privilege of lending to the government. Around $10 trillion-worth of bonds now have negative yields.

Bill Gross, a veteran bond manager at Janus Capital, warned recently that negative yields were a “supernova” that would explode at some point. He is not the first to argue that bonds have become ridiculously overvalued. Pessimists have been calling the top of the bond market since 2011.

In January almost two-thirds of global fund managers were gloomy about the outlook for government bonds. So far, however, this year has been another disappointment for the bears.

Since the start of 2016, ten-year Treasury yields have dropped from 2.27% to 1.59%, British gilt yields of the same maturity have fallen from 1.96% to 1.24%, and the equivalent German yields have plunged from 0.63% into negative territory.

This was supposed to be the year when the economic recovery was so well established that monetary policy, in America at least, returned to normal. But after pushing up rates last December, the Fed has since stood pat. A month ago there were growing expectations of a rate rise in June; it didn’t happen. America’s GDP growth rate in the first quarter was disappointing. The latest non-farm payroll numbers showed the economy generated only 38,000 net new jobs in May.

It is not just the Fed that has boosted bond markets. Both the European Central Bank and the Bank of Japan continue to purchase bonds through their quantitative-easing (QE) programmes. Just as importantly, both central banks have imposed negative rates on at least some of the reserves commercial banks keep with them. In that context, even a marginally negative nominal bond yield may look attractive.

Investors tend to head for the perceived safety of government bonds when they judge the political or economic outlook to be risky. Toby Nangle of Columbia Threadneedle, a fund-management group, says that investors, contemplating the short-term dangers of Brexit, a Trump presidency and a China slowdown, are opting for the safety of government bonds despite their low yields.

The approach of Britain’s referendum on EU membership on June 23rd has focused minds.

Recent opinion polls have suggested that Britain may well vote to leave the EU, with one showing the Leave camp ten points ahead. In the gambling markets, the probability of a Leave vote has risen from a low of 17% to 37%.

Donald Trump’s erratic policy statements make it hard for investors to get a handle on what will happen if the businessman wins the White House in November. His stated intention to reduce taxes without compensating spending cuts seems likely to inflate the deficit; that should be bad news for bonds. In the short term, however, those worries are offset by the broader uncertainty about what a Trump presidency would mean—and uncertainty is good for bonds.

On China, the recent data have been rather mixed. Investment in fixed assets was up by 7.5% in the year to May, the second-lowest reading since 2012. Investment in manufacturing grew by only 1.3%, says Société Générale, a bank. The IMF recently warned about the economic impact of China’s rising corporate debt. But the Chinese consumer looks strong: retail sales were up by 10% in the year to May.

If Britain votes to remain in the EU, if the American economy perks up (and the Fed tightens policy), and if the Chinese economy stabilises at a growth rate of 6.5-7%, then it is not hard to imagine bond yields heading back to their levels at the start of the year. But Japan has shown that bond yields can stay low for a very long time.

There is no sign yet of the sustained rise in inflation or in productivity that would bring GDP growth, or bond yields, back to what were seen as normal levels a decade ago. And there is a lot of demand for government bonds—from pension funds, insurance companies and central banks, and as collateral for interbank transactions. There may be a few bond-market vigilantes around, but they have been effectively neutered.

The Case Against Peace

There’s long been a theory that peacetime is bad for maintaining the global order — turns out a war now and then does a nation good.

By Stephen M. Walt 

The Case Against Peace

A striking trend in contemporary world politics is the apparent erosion of political unity in so many different places. In the Middle East, we’ve seen the upheavals of the Arab Spring and the continuing bloodbaths in Syria, Libya, Yemen, and elsewhere. In Europe, support for the European Union continues to drop, Great Britain may vote to leave it, and Scotland might still decide to exit the United Kingdom. Here in the United States, we have a level of bitter partisanship not seen for many decades, the two main political parties are themselves deeply divided, and the presumptive GOP presidential candidate is a rank amateur (in several senses of that term). To say “the center cannot hold” seems like an understatement these days.

What’s going on here? Some people believe today’s fractious politics is a consequence of globalization, which has accelerated the pace of change, threatened traditional cultural norms, and left millions of people feeling marginalized. Other observers blame economic policies that have enriched the One Percent and insulated them from their own misdeeds, leaving the rest of us to forage for the crumbs from their table. Or perhaps the digital revolution and new media are the real culprits, with the combination of cable TV, Twitter, and other modern means of communication lowering barriers to entry, coarsening the national dialogue, spreading extremism, and making the nastiest forms of political innuendo seem legitimate.There may be some truth in each of these claims, but they all overlook an even more important explanation for the fractious state of contemporary politics: peace. Don’t get me wrong: I think peace is wonderful, and I wish more politicians talked about it openly and did more to further it.

But prolonged periods of peace may also have a downside: They allow divisions within different societies to grow and deepen. Even worse, they may eventually drive the world back toward war.

I wish I could claim this was my original idea, but this explanation for our present divisions has been around for quite a while. Indeed, 20 years ago, political scientist Michael Desch published a fascinating article in the academic journal International Organization, titled “War and Strong States, Peace and Weak States?” Drawing on the earlier work of Max Weber, Otto Hintze, George Simmel, Charles Tilly, Lewis Coser, and others, Desch argued that war (and external threats more generally) were perhaps the single-most important factor explaining the emergence of strong, centralized states and cohesive national polities. In particular, the pressures of international competition forced rival states to develop effective bureaucracies, efficient systems of taxation, and formidable armies, and it also encouraged the promotion of patriotism and a dampening of internal divisions. When the wolf is at the door, domestic quarrels are put aside in order to deal with the more immediate danger.

Unfortunately, this argument also implies that the arrival of peace can have a negative effect on national unity. Desch quotes sociologist George Simmel approvingly: “A group’s complete victory over its enemies is thus not always fortunate in a sociological sense. Victory lowers the energy which guarantees the unity of the group; and the dissolving forces, which are always at work, gain hold.”

Does the historical record support this view? Desch thought so. In his words: “Variation in the intensity of the international security competition also affected the cohesion of many states.

From the end of the Napoleonic wars and the Treaty of Versailles in 1815 until the Crimean War of 1853-1856, the external threat environment facing European states became relatively benign. The period between 1815 and 1853 witnessed an unprecedented breakdown in state cohesion manifested in a series of internal upheavals in various European states.”

He also saw a similar pattern in U.S. history. By 1850, he noted:

“[T]he external threat environment facing the United States had become quite benign. At the same time, long-standing internal tensions reemerged in the United States…. By the election of 1860, the country was so divided that Republican Abraham Lincoln was elected with little more than a third of the vote and three other parties did quite well…. It is reasonable to conclude that the American Civil War was in part the result of the breakdown of national cohesion due to the changing external threat environment.”

The two world wars, by contrast, helped create the modern American federal state and were a powerful source of national unity, a trend reinforced even more by the subsequent Cold War.

In Desch’s view, “The cold war was the ‘perfect’ type of threat. It never escalated to a major war … although it was serious enough to be a unifying factor.”

The end of the Cold War removed this source of unity, however, and as Nils Petter Gleditsch, John Mueller, Steven Pinker, and Joshua Goldstein have all argued, the level of conflict (and external threat) in the world has been declining (until a recent modest uptick). The result, as Desch foresaw two decades ago, has been growing internal disunity and a weakening of state effectiveness, although the strength of these tendencies varies widely around the world. States that mobilize power through market mechanisms appear to be more robust than those that do so through coercive extraction, and there is also a “ratchet effect” when states go stronger.

Because bureaucracies and institutions created at one point in time rarely go out of business as soon as their original rationale disappears, and because modern states do more than just prepare for war, a decline in external threats does not necessarily cause modern states to shrink all the way back to their pre-threat proportions. But as we are now seeing, it can make their internal politics far more divisive.

Taken together, these arguments led Desch to some striking predictions, including:

“First, the viability of multiethnic states facing a less challenging external security environment will certainly decrease … [T]hose that survive will have to cope with a much higher level of ethnic separatism and demands for autonomy.

“States with deep ethnic, social, or linguistic cleavages facing a more benign threat environment should find it harder to maintain cohesion. Key cases to watch here are Israel (secular versus religious Jews and the Jewish majority versus the Arab minority), multiethnic Arab states such as Syria (Alawites) and Jordan (Palestinians), Afghanistan (various political factions), much of black Africa (tribal), and especially South Africa (Zulus and whites).

“[T]he longer the period of reduced international security competition, the more likely are developed states to be plagued by the rise of narrow sectoral, rather than broad encompassing, interest groups. [The United States is] now witnessing significant challenges to federal authority, a growing consensus on the need to cut spending to balance the federal budget, serious efforts to eliminate cabinet departments and other federal agencies, skepticism about a state-dominated industrial policy, and a Republican-controlled Congress committed to, and so far successful, in its efforts to limit the growth of the American state.”

Sounds about right to me.

Although some of Desch’s predictions were not fully borne out, his article anticipated many of the fissiparous tendencies that characterize political life in the United States, Europe, and parts of the developing world. At a minimum, his crystal ball has performed much better than Frank Fukuyama’s belief that we had reached the “end of history,” or the late Samuel P. Huntington’s forecast of a looming “clash of civilizations.”

“Not so fast,” I hear you say. What about al Qaeda and the threat that states face from violent extremism of all sorts? Didn’t 9/11 actually produce an upsurge of national unity in the United States along with the creation of state structures like the Department of Homeland Security?

And doesn’t the growing political rancor in the face of the dangers posed by al Qaeda, the Islamic State, or even Putin’s Russia cast serious doubt on Desch’s argument?

Don’t shocking events like the recent attacks in Orlando, Florida, give us reason to put aside our differences and pull together once again?

It would be nice to think so, but I have my doubts. The threat from al Qaeda and its ilk is just not serious enough to galvanize the national unity that a genuine international rivalry produces. The attacks of 9/11 were a shock, of course, and so were the Boston Marathon bombings, the shootings at Fort Hood, and this latest outrage in Orlando. And, yes, the George W. Bush administration was able to exploit the initial post-9/11 reaction to take the country into a foolish war and to ramp up executive authority in various ways. But Americans soon adjusted, mostly because the actual threat proved (fortunately) to be smaller than many feared in the immediate aftermath of 9/11. Domestic terrorism continues to shock us, but it’s hard to rally the nation over the long term when the risk of dying in a terrorist incident is still about 1 chance in 4 million each year. In this, still mostly benign, environment, narrow interests remain free to pursue their particular agendas.

Moreover, international terrorism is also the shadowy, hard-to-measure danger that can turn a nation’s fears inward and magnify domestic divisions. When a hostile group uses terrorism, and is able to attract a handful of supporters abroad, it inevitably triggers fears of “fifth columns” or “lone wolves” or even some vast and well-orchestrated plot to attack us here at home. Contemporary Islamophobia is a perfect illustration of this sort of concern, and it is precisely this thinking Donald Trump has exploited in his unexpected march to the Republican presidential nomination.

In short, if the U.S.-Soviet Cold War was the “perfect” threat for generating national unity, terrorism is perhaps the worst type of danger for holding the United States together. It’s not fearsome enough to bring a new “Greatest Generation” to the fore, and politicians eager to play on our worst fears can easily exploit it in ways that are more likely to divide than to unite the country.

If Desch is right — and I think he is — the implications are both ironic and disheartening.

Reducing external dangers turns out to have a downside: The less threatened we are by the outside world, the more prone we are to ugly quarrels at home. Even worse, peace may even contain the seeds of its own destruction. As we are now seeing in the Middle East, the collapse of unity and state authority can easily trigger violent internal conflicts that eventually drag outside powers back in.

Yet the obvious solution — looking for some external bogeyman to rally against — is hardly appealing either. The result, alas, may be a recurring cycle of conflict where periods of peace give way to new sources of tension and division. I suppose you might say this disturbing possibility is part of what makes me a realist.
Stephen Martin Walt (born July 2, 1955) is an American professor of international affairs at Harvard University's John F. Kennedy School of Government