Italy's Strange Campaign

Berlusconi, Five Star and the Road to Political Gridlock

A disillusioned electorate, multi-billion-euro campaign promises and the return of Silvio Berlusconi: Italy is muddling its way through a strange election campaign with an uncertain outcome. The consequences for Europe could be significant.

By Walter Mayr

It was perhaps the most outlandish appearance of the campaign. Late at night on a public television station, an aged man came on looking as though he had just stepped out of a Madam Tussauds wax museum, his similarity to the embalmed Mao Zedong difficult to ignore. He read out a personal statement from a sheet of paper. The anchor standing devoutly next to him was hardly any younger.

The old man ceremoniously proclaimed the title: "Commitment to the Italians," followed by 90 seconds of vainglorious blustering. Then came the pledge: "Following the certain victory of the center-right parties in the March 4 election, I will create jobs together with the prime minister. My goal is to bring the unemployment rate below the EU average during the legislative period. Signed: Silvio Berlusconi."

The jobless rate in the European Union is 7.3 percent, while it is 10.8 percent in Italy. But Berlusconi radiated confidence. He had, after all, just repeated one of his greatest coups: Seventeen years earlier, at that same desk, in the presence of that same anchor, he had introduced his grab-bag of promises called "Contract with the Italians." That grotesque televised deal with the people contributed significantly to Berlusconi's return to the office of prime minister.

It's as if time has stood still in Italy. Just recently, it seemed inconceivable that a man who served as prime minister four times and who - in addition to turning his country into the butt of myriad jokes - almost bankrupted Italy would once again be speaking of his political future at the ripe old age of 82.

In 2013, Berlusconi was found guilty of tax evasion and had to resort to legal sleight of hand to narrowly avoid additional convictions for abuse of office and for paying for sex with an underage prostitute. He also isn't allowed to run for office himself on March 4; due to his conviction, he is banned from seeking public office until 2019. Despite all that, however, the center-right alliance Berlusconi leads - which includes, in addition to his own Forza Italia party, the far-right Lega Nord and the further-right Fratelli d'Italia - has good chances of emerging victorious from the approaching election.


If the right doesn't end up with a majority, political gridlock could be the result, with three blocks of roughly equal strength standing face-to-face. March 4 isn't just a fateful election for the future of Italy. The future of the EU is also dependent on which direction the eurozone's third-largest economy chooses to take. And there is cause for concern: A trip through Italy this winter, including conversations with right-wing agitators in Ventimiglia and evangelists for internet democracy in the deep south, exposes a significant level of rage among the electorate. And resignation.

According to a recent survey, 81 percent of all Italians mistrust the state, with only 5 percent saying they have faith in the country's political parties and in what they say. With just days left before the election, two-thirds of those surveyed said they didn't know, or didn't even want to know, who was running from their electoral district.

It was just four years ago that the young Social Democrat Matteo Renzi became prime minister on the strength of promises to "jettison" the old elite, to rapidly push through delayed reforms and make Italy both more competitive and more influential on the European stage. What went wrong?

Renzi has been out of power since the end of 2016, having left office after losing a referendum over a constitutional reform and falling prey to his own conceit. But he nevertheless managed to enact some change: Following the longest recession since 1945, the country's economy is growing once again. Exports are also on the rise and almost a million jobs have been created, though most of them are of the precarious variety.

But the societal rifts grew deeper during the crisis and 8.4 million Italians are poverty stricken, with almost 5 million of those living in "absolute poverty," denoting the inability to buy goods and services "essential to avoid grave forms of social exclusion," according to the country's statistics office. In addition, the country faces an ongoing exodus of the well-educated combined with a continuing influx of migrants who see Italy as the gateway to Europe. Since 2014, 625,000 of them have arrived.

The population's anger is on the rise. And that anger is being reflected on the campaign trail.

A Visit to the Front Lines of Populism

Signs for the highway heading to Nice, France, are posted along Via Tenda in the border city of Ventimiglia - and hundreds of refugees, almost exclusively Africans who have refused to be registered, are camped beneath the arterial, which runs along an overpass.

They would rather sleep out in the open along the river banks. At night, they huddle beneath blankets and tarps while during the day, they are constantly on the move, their mobile phones clutched tightly in their hands. They pay no attention to the complaints of the local residents, who bemoan the "intolerable conditions" in their street.

An appearance by Matteo Salvini is scheduled for 4 p.m. Salvini is head of the far-right party Lega Nord, which now simply calls itself "Lega," a consequence of its new effort to attract voters in southern Italy as well. It is, after all, the south that has been most affected by the arrival of the migrants - or, as Salvini calls them, the "do-nothings." He is a brawny, coarse firebrand who allies with Marine Le Pen, of the French right-wing party Front National, in European Parliament. He hopes to govern together with Berlusconi in Rome.

Prior to his arrival in Ventimiglia, Salvini announces that he won't be visiting the refugee camp along the river banks after all - "to avoid instigation." The mood in the city is tense enough as it is. At midday, a Romanian man assaulted the wife of a city hall employee in the city center. "Bastard," curses the mayor, a Social Democrat. "I'm afraid Salvini will rake in a lot of votes here."

Shortly after 4 p.m., the Lega head arrives in an overflowing theater in the city and gets right to the point. "When I next return to Ventimiglia as prime minister, there won't be a single illegal immigrant left here," Salvini says. He then promises: "Delinquents will be given a one-way ticket home."

Lega is only at 11 percent in the polls, but that hasn't slowed the party, which is an ally of Russian President Vladimir Putin's United Russia. Under his leadership, Salvini promises, Italy would no longer adhere to European Union laws that do not conform to the country's interests. And he blusters: "We are taking back our country where 1,000 lira used to be worth 1,000 lira and there was no currency that only served the interests of German banks."

It is, in fact, their competing approaches to the EU that shows just how fragile is the alliance formed by Salvini and the pro-European Berlusconi. They aren't connected by much more than a desire for power. The term "center-right block" also glosses over the fact that the post-fascists from Fratelli d'Italia are also part of the alliance. According to the country's complicated new election law, 40 percent of the vote is necessary for an absolute majority in parliament. According to the polls, the right is currently five percentage points short of that mark. It also isn't clear who would become prime minister if Berlusconi's alliance won, though there are indications that it could ultimately be Antonio Tajani, current president of the European Parliament and a member of Berlusconi's party.

And then there is the persistent rumor that Berlusconi, during a January visit to Brussels, promised leading Christian Democrats that he would not govern together in a coalition with Salvini's Lega. Instead, he could help Renzi's Social Democrats to a majority just as he did in 2014. That would help explain the praise heaped upon Berlusconi following the trip to the EU capital. The meeting with Berlusconi was "excellent," proclaimed European Commission President Jean-Claude Juncker at the time.

Campaign of Illusionists

It has been a confusing campaign. There are no signs lining the streets. No televised debates between the candidates. Newspapers, meanwhile, are running squalid stories about candidates who have stolen, committed fraud or abused their wives.

It is a campaign of illusionists: Berlusconi speaks as though he was once again going to head the government, though he is forbidden from running. Salvini is acting as the future prime minister, but polls show he doesn't stand a chance. And Renzi is leading the Social Democrats into the election but is seen as being washed up. Behind him, incumbent Paolo Gentiloni is quietly standing by, Italy's most trusted politician, according to the polls.

And then there is Luigi Di Maio. The 31-year-young lead candidate for Movimento Cinque Stelle (M5S), the Five Star Movement, currently stands at 28 percent in the polls, putting his party ahead of all other single parties. That would be reason enough to claim the office of prime minister - if not for the dogma from the founding years of this protest movement which prohibits the formation of coalitions.

When asked how he intends to create a majority, Di Maio dodges and weaves. Backstage after a well-received speech in the Sannazzaro Theater in Naples, the leading figure of Five Star is as self-controlled and good looking as always. "If we don't end up with an absolute majority following the election, then we'll just have to call on all political forces to find common ground on the issues," Di Maio says. "If there is willingness to do so, we can then draft a program for the 18th legislative period."

That's how he talks these days. Like someone with a heavy weight shackled to his ankle.

From the very beginning, M5S has subjected itself to a strict set of rules. They were established by the party's founder, the comedian Beppe Grillo, and the ideologue Gianroberto Casaleggio. Party members are only allowed a maximum of two terms in office, half of their parliamentary salaries must be donated to charity, they aren't allowed to appear on talk shows, coalitions are to be avoided, and members will be thrown out of the party if they run into even the slightest trouble with the law.

Not all of these rules still apply. With M5S members holding power in 45 city halls in the country, the party hasn't just come closer to power, but also to reality. That, though, has meant that the erstwhile revolutionaries in Italian politics are now subject to merciless criticism in the media, and Luigi Di Maio, the head of the party, absorbs most of it.

Hardly a day goes by in which he doesn't have to comment on yet another misstep made by a fellow party member. Even just among the party's candidates for the two houses of parliament, 14 have been found who have transgressed internal party rules on salaries. But voter support for M5S has remained stable. For Di Maio's speech in Naples, the audience was filled with social workers and teachers, but also owners of mid-sized companies who are unable to get loans from country's ailing banks. People, in other words, who are unable to clear the hurdles they are constantly confronted with in daily life in Italy.

If M5S was merely a "Noah's ark of frauds, scroungers and freemasons," as Renzi would have it, the public opinion surveys would surely look different. Di Maio intends to present his desired cabinet in the coming days. And he is no longer talking about holding a referendum on Italy's eurozone membership, as he was just a short time ago. Instead, he is praising "our European house."

Nobody Better

Meanwhile, Matteo Renzi hasn't really changed one bit. Neither in physical appearance nor in speaking style. He is still combative and intractable. But after three years in power, Renzi has managed to fall all the way back in the polls to a position behind the right-wing populist Salvini. The left-wing of his Social Democrats has split off and support for the party has almost halved since 2014. Why should people vote for him again?

"Because we are the only ones who aren't deceiving the voters with unrealistic promises," Renzi says smiling. And it is true that the bombast is greater elsewhere. Berlusconi is promising radical tax cuts, minimum pensions of 1,000 euros per month and tax immunity for companies that employ young Italians. Salvini is pledging the reintroduction of early retirement. And M5S is offering an unconditional basic income of 780 euros per month for all and a package of family benefits worth 17 billion euros.

Yet everyone knows that Italy currently holds 2.29 trillion euros in sovereign debt, the equivalent of 132 percent of the country's gross domestic product. Only Greece is in worse shape in Europe.

It remains unclear if Renzi wants to become prime minister again himself. There are increasing indications that the understated incumbent Gentiloni could remain in office - assuming the center-right camp fails to achieve an absolute majority.

What is clear, though, is that no government can be formed without Berlusconi's approval. And the ex-prime minister is even prepared should months of gridlock ensue in the wake of the March 4 vote, with coalition talks, maneuvering and side deals.

When it comes to scheming, after all, there is nobody better.

Raising Rates Reflect Bigger Debt Not Faster Growth

By: Peter Schiff

While investors are justifiably focused on what may be the opening crescendo of a long overdue sell-off in stocks, there is not, as of yet, as feverish a discussion of the parallel sell-offs in bonds and the U.S. dollar, which have been underway for at least a year and a half in bonds and 14 months for the dollar. I contend that this should be widely understood as the root causes of the jittery Dow, and are ultimately far more important. A continued decline in the dollar and bonds holds the potential to ignite inflation while increasing mortgage rates, borrowing costs, and federal deficits. These developments would strike at the very heart of the economic foundation that has supported the country since the Financial Crisis of 2008, and threaten to push the economy into a recession that the Fed may be powerless to confront.

Secretary of the Treasury, Steve Mnuchin, stunned markets late last month when he said that a cheaper dollar would be a welcome development for the U.S. economy. The dollar sold off sharply as Mnuchin’s words appeared to be taken as proof that the Trump Administration overtly embraced a weaker dollar. To quell the uproar, President Trump himself, freshly arrived in Davos, Switzerland, had to “clarify” the Secretary’s comments, explaining, as only ‘the Donald’ can, that by “weaker” Mnuchin really meant “stronger.”

The exchange did provide a fresh twist on our decades-old “strong dollar policy,” which traditionally works like this: The President and/or senior Fed officials refer all questions about the health and trajectory of the U.S. dollar to the Secretary of the Treasury, who proclaims loudly and clearly, with no trace of irony, that “a strong dollar is in the national interest.” These comments reassure the markets, the dollar rises, and the operation is complete. Although this protocol is one of the simplest Washington has to offer, the Trump Administration managed to get it wrong on its first try.

Despite the fact that Trump’s vocal support for a “strong dollar” was not accompanied by any indication that he would actually do anything to support it, his words temporarily reversed the dollar’s 24-hour skid. But apart from reacquainting us to the absurdity of a “policy” that is simply based on mouthing a canned phrase, the episode raises a couple of key issues. Trump claimed that the economy is surging and, as a result, the dollar will keep getting stronger and stronger. The problem with these assertions is that neither is true.

Last week’s newly released Q4 GDP report from the Bureau of Economic Analysis (BEA) shows that the economy grew at 2.6% in the Fourth Quarter, bringing the entire year’s GDP growth rate to 2.4%, only .2% higher than the 2.2% GDP growth that we have averaged over the prior three years (2014-2016). And while 2.4% is marginally higher than the average growth we have had since the end of the 2008 financial crisis, it is still significantly below the average over the past century, and even weaker than two years of Obama’s second term.

The news is also surprisingly weak on the trade and employment fronts, another two areas for which Trump has shown particular enthusiasm. Contrary to the supposed “record job creation,” average monthly job gains in 2017 were 17% slower than the combined averages in 2015 and 2016, based on data from the Bureau of Labor Statistics. In fact, job growth in 2017 was its slowest pace since 2010.

Similar disappointments can be found in America’s trade balance, which, according to Trump, has improved dramatically due to his “tough” negotiations and our resurgent manufacturing sector. But according to the U.S. Census Bureau, average monthly 2017 trade deficits (through November) were 11% wider than 2016, and 14% wider than the average over the prior 4 years. What's worse is that these increases come at a time when a falling dollar, in theory, should have narrowed the gap!

Given all this, one would be hard-pressed to find the "boom” Trump describes, especially if one is also claiming that such windfalls were not occurring under Obama. But since when have facts ever mattered in Washington or on Wall Street?

So if Trump is wrong about the economy, jobs, and trade, what should we make of his view that “the dollar will get stronger and stronger?”

While the financial media has been focused on the stock market, most have dismissed the significance of the declining dollar. 2017 saw the first annual; decline in the dollar in five years and its largest decline in 14 years. 2018 is off to an even worse start, with the dollar registering its steepest January decline since 1987. In fact, against the Chinese yuan, January was the weakest month for the dollar since 1994. The current decline in the dollar index that began in December 2016 is now the longest continuous decline in the last 12 years. And while other recent declines have been steeper (see chart below), this one is distinct because it is occurring against a set of economic conditions that should be bullish for the dollar. Economic growth is assumed to be strong, consumer confidence is high, and the Fed is expected to keep raising interest rates and actually shrink its balance sheet (which would diminish the supply of dollars).

(Data from Yahoo Finance, BEA, & Bloomberg)
(Created by Euro Pacific Capital)

So if the dollar is falling now, with everything supposedly going in its favor, what should we assume will happen if the dollar’s luck runs out? A recession, which typically brings with it a decline in GDP and consumer confidence, and which may cause the Fed to reverse policy, may likely knock out the remaining supports for the dollar and result in deep declines. But given the nearly universal optimism that prevails in financial and political centers, it’s unlikely that these concerns are widely shared.

Over the past century, the U.S. economy has experienced a recession, on average, every six and a half years. Despite the fact that more than a decade has passed since our last recession began, few forecasters see another one looming. But interest rates are currently creeping up further and faster than nearly anyone had predicted. At 2.85%, the yield on the 10-year Treasury is currently at its highest level in nearly 4 years. Except for a few days in December 2013, yields haven’t been higher than 3% since mid-2011. It’s very possible that rates on the 10-Year Treasury will relatively soon break through 3%, perhaps lifting mortgage rates and bank loan rates into territory that we haven’t seen for well over a decade.

But it’s absurd to expect that yields won’t go considerably higher than 3%, especially given how the supply of Treasury bonds coming to market will balloon in coming years. As reported last week by the Wall Street Journal, the Treasury Borrowing Advisory Committee - a group of private banks that advises the Treasury - estimated that $955 billion of Treasury debt will come to the market this year (up from $519 billion last year), and that the issuance will surpass $1 trillion in fiscal 2019 and 2020. The Journal reports that the Committee ramped up its estimates due to the recently passed tax cuts. So the issuance of Treasuries may spike just as demand for them may wane due to a possible slowing economy and a falling dollar. Just today, the Associated Press reports that a potential budget deal being discussed in Congress would grant both parties their respective spending priorities, resulting in a $1 trillion deficit as soon as next year. Recall that the only other times that we ran deficits that large were the years 2009-2012, a period in which the Federal Reserve was buying nearly half a trillion per year of Treasury debt through its Quantitative Easing program. But now the Fed has promised to effectively sell bonds to shrink its balance sheet, in a process that could be called “Quantitative Tightening.” This is a recipe for an enormous decline in the bond market, which could send yields much higher.

Does anyone really expect that our current economy could absorb rates on the 10-year that might hit 4% or higher without slowing? Perhaps they are just too numbed by success to care at this point. In fact, if rates rise above 4%, what is there to prevent them from surging much higher? It’s ironic that as stock market investors ignore the collapse in bond prices, the one thing that might prevent a bond market crash would be for the stock market to crash first, thereby forcing the Fed’s hand. Yet the markets seem unconcerned.

Since the Federal Reserve and the U.S. Government began intervening in the markets in the wake of the 2008 financial crisis, there has been almost no downside volatility in stocks. With the exception of a trivial 8% decline in the opening two weeks of 2016, the nearly 300% rally in the Dow since March of 2009 has been achieved with hardly a step backwards. The 10% and 20% corrections that were fairly commonplace throughout much of the 20th Century, now seem to be relics of the past. In fact, despite the recent breakneck speed of ascent (40% gain in just 15 months) and the record level valuations (stocks trading around 27 times trailing earnings), the volatility index, which is commonly viewed as a measure of investor fear, is remarkably, almost historically, low. It does seem that fear and worry have been thoroughly banished from Wall Street.

But the dollar itself may be a window into the troubled souls of otherwise carefree investors.

Even in the market surge of the past decade, there have been some isolated moments when daily declines are significant. By looking at what “safe haven” choices investors make on the market’s worst days, we can potentially see what may happen if the market experiences sustained selling.

If we look at the average of 10 worst market days each year during the five years from 2008 to 2012, 50 days when the Dow dropped by at least 100 points, we can see that the dollar tended to rally in the panic. During those days, the dollar index rallied 80% of the time, and on average rose .6% on the day. This seems to reflect that the dollar maintained its “safe haven” status.

But, in more recent years, that has changed considerably. Averaging the 10 worst market days of each year in the market from 2013 to 2017, the dollar fell on those 50 days by approximately .3%, and it only rose 26% of the time.

Data from Yahoo Finance, BEA, & Bloomberg
Created by Euro Pacific Capital

Past performance is not indicative of future results

This shift in sentiment could be extremely significant in the years ahead. This is why a simultaneous collapse in bond prices and the dollar could be so significant. It could show that rising interest rates do not reflect improved growth, as so many stock market bulls conveniently claim, but a loss of confidence in the dollar and the creditworthiness of the United States.

The onset of both of our previous recessions (2000 and 2008) inspired the Fed to cut interest rates by at least 500 basis points. Currently the Fed Funds rate is still under 1.5%. If a recession comes, 150 basis points in cuts before the rate hits zero may not be nearly enough to provide the stimulus that the markets have come to expect. That may mean that the next recession might almost assuredly bring with it another round of quantitative easing from the Fed. But the Fed has already prepared the currency markets for its balance sheet to shrink. Imagine the reaction when the opposite occurs.

A recession that brings on another dose of QE could help to create the perfect conditions to help push the dollar to record lows, continuing its long-term bear market that began in the early 1970s. The low for the dollar Index in 2008, just before the dollar was saved by the financial crisis, was just above 70. It is currently just above 89, having traded above 104 as recently as January of 2017. My guess is the next leg down could take the dollar index to 60. To support the currency, the Fed would have to follow the example of Paul Volcker, who hiked interest rates in the 1980s when the dollar was collapsing. Of course, such moves to prop up the dollar during a recession will be acutely unpopular and may bring on a recession worse than the one seen in 2008. If the Fed lacks the courage to administer such medicine, a dollar index at the 40 level might not be ruled out.

All this adds up to a possibly rough road for investors who maintain 100% exposure to the U.S. dollar.

US economy: The growth puzzle

After several years of weak demand and low inflation, investment is rising. But an increase in long-term growth requires a big jump in productivity

Sam Fleming in Chattanooga

© A structure using Branch Technology's large-scale 3-D printing technology. Alamy

In the foothills of the Appalachian mountains, Platt Boyd monitors a small platoon of 12-foot long robot arms that he hopes will help revolutionise one of America’s most technology-shy industries.

The Chattanooga, Tennessee-based founder of Branch Technology is vying to bring large-scale 3D printing to the construction sector, allowing elaborate architectural creations to be prefabricated with minimal human labour.

“It has massive potential,” says Mr Boyd, standing on his spartan shop floor near two emerald-green robots that are producing the skeleton of a 42-foot-wide structure. “The sector is one where there is a lot of low-hanging fruit.”

In the coming weeks Mr Boyd’s small start-up expects to take on 10 more staff, move to a 40,000 sq ft new factory and take delivery of four more $200,000 robots as it capitalises on America’s red-hot construction market.

Mr Boyd’s bullish outlook reflects rising optimism among US business owners about whether to make new investments. A record share of small businesses say now is a good time to expand in the US, according to data going back to 1973 from the National Federation of Independent Businesses. With global demand gaining traction and US wages accelerating, this is stoking hopes that the US could be on the cusp of higher sustained expansión.

The mood among bosses offers a counterweight to the warnings over the past few years that the US remains stuck in “secular stagnation” — a semi-comatose state of excess savings, weak demand, low inflation, and depressed interest rates. Much of the country’s dynamism has been concentrated in urban superpowers ranging from Los Angeles and New York to Austin, leaving large tracts of the country stranded and disillusioned.

Yet if companies start bolstering investment, it could give a recovery now in its ninth year further staying power, preventing the recent cyclical upswing from flaming out.

“We have seen a genuine acceleration in business investment in recent months which we expect to gain more traction this year, driving higher productivity in the United States,” said Bart van Ark, chief economist at The Conference Board think-tank. “If this cyclical pick-up lasts long enough it could start to lift America’s growth potential over the longer term, but it is too soon to call that turning point.”

Ripe for expansion: some smaller cities such as Chattanooga, with a population of more than 170,000, are in good economic health © Alamy

Even before Congress passed the recent tax cuts, the US saw two successive quarters of double-digit annualised growth in corporate spending on equipment. New projections from The Conference Board, shared with the Financial Times, show US productivity this year on course to grow 1.3 per cent — below rates seen before the crisis but the fastest pace since early this decade.

Broader economic data so far this year have been robust, with gross domestic product on track to rise 3.2 per cent in the first quarter, according to the Atlanta Fed and annual wage growth accelerating to 2.9 per cent in January.

At the same time, Congress is pouring fuel into the US economy by cutting taxes and lifting spending. Indeed, some economists, including Bill Dudley, the Federal Reserve Bank of New York’s president, believe the bigger risk is that the economy overheats, which could bring the expansion crashing to a halt.

To optimists, the economic health of smaller cities such as Chattanooga, with a population of more than 170,000, is a sign of an expansion capable of broadening its reach. Set along a winding stretch of the Tennessee River and surrounded by green mountains, Chattanooga used to be seen as a polluted, post-industrial wreck. But following several decades of regeneration efforts led by local government, unemployment in the broader urban region is now 3.4 per cent, (compared with 4.1 per cent nationally), the population is expanding, and small tech companies are joining large-scale manufacturers such as Volkswagen in expanding their operations in the city.

“There have been these waves where we have made real progress — the last few years have been one of those waves,” says Andy Berke, the city’s Democratic mayor, who adds that when he was growing up, the city was dying. “You have to take advantage of it while the economy is good.”

New data from the Brookings Institution covering the Chattanooga metropolitan area show the pace of job growth was 15.6 per cent for its young companies — defined as up to five years old. That is the sixth most rapid of the biggest 100 metro areas in the country from 2015-16.

Ken McElrath, the founder and chief executive of Skuid, a Chattanooga-based software company, says he located there in part because it is “crazy” how much cheaper it is than in downtown San Francisco or New York or Boston. “Because the cost of living is so low, you don’t need to pay them exorbitant wages,” he says.

Nevertheless, this remains an expansion on fragile foundations. Although the Brookings Metro Monitor data, to be released on Tuesday, show the recovery has broadened out, with 93 of America’s 100 biggest metro areas posting increases in output from 2015 to 2016, that growth is still concentrated within the most populous and successful cities.

The region around Chattanooga has benefited from inflows of foreign investment, lured in part by tax incentives, as well as a decision by the local utility to install ultra-fast internet infrastructure. Nevertheless the Brookings numbers show productivity in the metropolitan area actually dropped marginally between 2015 and 2016.

Mark Muro, director of policy at Brookings’ Metropolitan Policy Program, says that the 53 largest metro areas with 1m of population have generated 95 per cent of population growth and 73 per cent of GDP growth from 2010 to November 2016. “A limited core of the country has a vibrant economy while much of the remainder is being left behind,” he says. “It seems sort of academic to ask whether or not the country is in secular stagnation when we see such massive growth divides — it is an unsustainable situation.”

Within Chattanooga, residents talk of divided fortunes. In the city’s downtown a nascent tech sector has sprung up in its innovation district, hosting software and web-development firms sporting the sector’s obligatory ping pong tables, bean bags and office pets.

But while poverty has fallen in recent years, the city of Chattanooga still has a poverty rate of more than 20 per cent, and poverty among black residents is above 30 per cent, according to Census Bureau figures. Many residents, notably in historically black parts of town, feel excluded from the growth in the urban core, say local activists who bemoan the small size of its black middle class.

“They have come up with a strong template for how to grow a mid-size city,” said Ken Chilton, an associate professor at Tennessee State University. However “there are a whole group of folks being left out of the benefits”.

Larry Summers, former Treasury secretary, says a key question is whether 'extraordinary macroeconomic and financial conditions' are needed to generate adequate growth © Bloomberg

Sitting in the downtown restaurant where he works in the kitchen, Allen Shropshire says that while newcomers to the city with good skills have prospered, many locals have not. He is now taking a course in energy-saving construction from a local non-profit called Green Spaces and a partner organisation called Build Me A World. “Most weeks I am breaking my back just to get a decent amount for my family,” he says.

This sort of inequality is replicated across the country, creating a barrier to more durable growth given that so much spending power is held in the hands of well-off individuals.

Larry Summers, former Treasury secretary, revived the concept of secular stagnation to describe America’s economic plight in the aftermath of the financial crisis. He says growth has been running above potential and there is modest evidence of accelerating wages. But a key question is whether “extraordinary macroeconomic and financial conditions” are needed to generate adequate growth.

“We have one of the largest fiscal expansions in the country’s history starting from full employment, we have short-term real interest rates at essentially zero, we have the wealth effect of a stock market that has risen by 25 per cent a year, and all of that is only enough to get you 2.5 per cent growth in 2018,” he says. “The question is whether we are moving steadily at a higher level of investment that can be maintained indefinitely and sustainably financed. I don’t think some signs of increased spending subsequent to a major increase in asset prices, a huge fiscal expansion and a major increase in oil prices constitute convincing evidence.”

Needless to say, Trump administration officials have a very different take and are pointing to punchy growth numbers in the second and third quarters last year as evidence that the US has already embarked on a sustainably stronger growth trajectory.

Predictions in the administration’s budget of 3 per cent annual growth well into the next decade left most economists deeply sceptical, however. The Federal Reserve in December put the longer-term trend at just 1.8 per cent even after the tax cuts — similar to the Congressional Budget Office’s estimate.

A key part of the problem is demographics: absent big changes in immigration patterns, the population’s ageing will mean slow workforce growth, cutting away a key growth driver.

Big manufacturers such as Volkswagen are expanding their operations in Chattanooga © Reuters

To lift potential growth even modestly, the US would therefore need to see a jump in productivity — and a truly remarkable one if the kind of long-term growth figures President Trump has promised were to be achieved. Instead, the country’s productivity performance has been dire, with output per hour growing at an average of just 0.6 per cent a year for the past seven years, according to the Conference Board.However forthcoming research by the McKinsey Global Institute suggests there is potential for a rebound. It stresses the important role that the financial crisis played in dragging down US productivity. As its influence fades, productivity has the potential, at least, to grow 2 per cent a year across leading countries over the coming 10 years. “When we see the financial crisis after-effects dissipate we would expect productivity growth to speed up from the historic lows we have seen,” says Jaana Remes, a partner at MGI. “We would expect some bounceback.”

Much will depend on whether US companies match their enthusiastic predictions of higher technology investment with action, and whether the digital advances of recent years begin to diffuse among broader populations of firms and into sectors that are technological laggards. Company bosses have repeatedly claimed that tax reductions and looser regulation will induce them to spend more, but tax cuts have often shown up in dividends and share buybacks, rather than new technologies.

Indeed, the history of slow-adapting sectors like construction shows just how hard it can be to increase productivity. While US agriculture and manufacturing have raised productivity 10 -15 times since the 1950s, construction remains at the same level as 80 years ago.

Despite his enthusiasm about his own technology, Mr Boyd says it will take three decades to make such changes widespread. “It is a generation change,” he says. “It is not something that will happen overnight.”

Productivity boost: digital innovations could lead to higher growth

The US is far from alone in suffering a productivity slump in recent years — and new research covering a selection of advanced economies shows how severe the drop has been.

Productivity growth slumped about 80 per cent on average between 2000-04 and 2010-14, according to analysis from the McKinsey Global Institute covering the US, France, Germany, Sweden and the UK.

The decline is hugely significant given the role productivity plays in driving up living standards.

The first phase of the slowdown represented the waning of the technology boom of the 1990s. The second phase was driven by the crash in demand during the Great Recession.

This leaves reason for optimism about the future; if the financial crisis was responsible for a chunk of the slowdown, there ought to be scope for a bounce now that many of its effects have dissipated.

Some economists have warned that many of the biggest technological advances have already been made, holding back the potential for productivity growth.

But MGI says digital advances such as the introduction of new online marketplaces and machine learning could boost productivity.

To date, the benefits have not materialised, broadly because of delays in the adoption of new technologies and barriers to their use. In retail, for example, online sales are two times more productive than those made in stores, and yet they account on average for just 10 per cent of sales.

At the same time, there is a major sting associated with digitisation as labour markets become more polarised between winners and losers. That could exacerbate income inequalities and hold back spending and growth.

The Irresponsible ECB

Jürgen Stark

FRANKFURT – The Dow Jones Industrial Average’s recent “flash crash,” in which it plunged by nearly 1,600 points, revealed just how addicted to expansionary monetary policy financial markets and economic actors have become. Prolonged low interest rates and quantitative easing have created incentives for investors to take inadequately priced risks. The longer those policies are maintained, the bigger the threat to global financial stability.

The fact is that ultra-loose monetary policy stopped being appropriate long ago. The global economy – especially the developed world – has been experiencing an increasingly strong recovery. According to the International Monetary Fund’s latest update of its World Economic Outlook, economic growth will continue in the next few quarters, especially in the United States and the eurozone.

Yet international institutions, including the IMF, fear the sudden market corrections that naturally arise from changes in inflation or interest-rate expectations, and continue to argue that monetary policy must be tightened very slowly. So central banks continue to postpone monetary-policy normalization, with the result that asset prices rise, producing dramatic market distortions that make those very corrections inevitable.

To be sure, the US Federal Reserve has moved away from monetary expansion since late 2013, when it began progressively reducing and ultimately halting bond purchases and shrinking its balance sheet. Since the end of 2015, the benchmark federal funds rate has been raised to 1.5%.

But the Fed’s policy is still far from normal. Considering the advanced stage of the economic cycle, forecasts for nominal growth of more than 4%, and low unemployment – not to mention the risk of overheating – the Fed is behind the curve.

Other advanced-economy central banks, still stuck in extreme crisis mode, are doing even worse. Neither the Bank of Japan nor the European Central Bank has provided any indication that it is set to tighten monetary policy, even though economic conditions today are totally different from those that prevailed during the crisis and subsequent double-dip recession in the eurozone. The ECB, in particular, defends its low-interest-rate policy by citing perceived deflationary risks or below-target inflation. But the truth is that the risk of a “bad” deflation – that is, a self-reinforcing downward spiral in prices, wages, and economic performance – has never existed for the eurozone as a whole. It has been obvious since 2014 that the sharp reduction in inflation was linked to the decline in the prices of energy and raw materials. 
In short, the ECB should not have regarded low inflation as a permanent or even long-term condition that demanded an aggressive monetary-policy response. The problem is that ECB officials have become excessively focused on ensuring price stability by meeting a short-term inflation target, defined broadly as “below, but close to, 2%,” with the specific goal being 1.9%.

This is out of line with the intentions of the ECB’s Governing Council, as enunciated in 2003, after an evaluation of the previous four years of monetary policy. At that time, the ECB confirmed the definition of price stability it adopted in 1998, but clarified that it aims to maintain the inflation target over the medium term, while recognizing that a central bank cannot control inflation with enough precision to establish a specific rate.

The ECB’s policy is also out of line with economic reality: the eurozone, like most of the rest of the global economy, is experiencing a strong recovery. Yet the ECB will probably view the recent stock-market turbulence as confirmation that it should maintain its current policies.

Although the Governing Council seems convinced that expansionary policies remain vital to support GDP and employment growth, and to keep deflation at bay, that seems unlikely. Indeed, insofar as the impact of these policies on the recovery can be reliably measured, it is probably modest – definitely not worth the €2.3 trillion ($2.8 trillion) in assets purchased since April 2015, not to mention the other consequences of maintaining zero or negative interest rates.

One of those consequences is that the ECB’s policy interest rate has lost its steering and signaling functions. Another is that risks are no longer appropriately priced, leading to the misallocation of resources and zombification of banks and companies, which has delayed deleveraging. Yet another is that bond markets are completely distorted, and fiscal consolidation in highly indebted countries has been postponed.

So the benefits of the ECB’s policy are questionable, and its costs indisputable. The current ECB policy is thus simply irresponsible, as is the utter lack of any plan for changing it.

In this sense, the ECB’s Governing Council is, consciously or unconsciously, following the Nobel laureate economist Paul Krugman’s 1998 advice that the Bank of Japan “credibly promise to be irresponsible” when nominal interest rates are already at zero and monetary policy is in danger of becoming ineffective. The central bank, Krugman declared, should stoke inflation through ongoing monetary expansion, in order to reduce real interest rates.

Krugman repeated this recommendation a few years ago, when he, along with former US Treasury Secretary Lawrence H. Summers, revived the theory of “secular stagnation.” But discussion of that theory has now ended – and for good reason. It is time to end the ECB’s irresponsible expansionary policies as well.

Today, monetary policy has become subordinate to fiscal policy, with central banks facing intensifying political pressure to keep interest rates artificially low. As the recent stock-market turmoil shows, this is drastically increasing the risk of financial instability. When more – and more severe – market corrections take place, possibly affecting the real economy, what tools will central banks have left to deploy?

Jürgen Stark is a former Member of the Executive Board of the European Central Bank and former Deputy Governor of the Deutsche Bundesbank.

The Hype and the Reality of the EMP Threat

It’s a scenario straight out of Cold War-era science fiction: A plucky adversary detonates a nuclear weapon dozens of miles above Middle America. The goal isn’t to incinerate St. Louis, but rather to grind daily life from coast to coast to a halt.
A three-pronged electromagnetic pulse hits everything within line of sight of the blast, frying almost every electrical circuit it touches. It’s as if lightning struck every house in every city within a day’s drive at once. The pulse also couples with interstate power lines, both above and below ground, and ripples outward, overloading distant systems. Communications networks go silent, as do Wall Street trading floors, air traffic control towers and intensive care units across the region. Water taps and gas station pumps go dry. Grocery shelves quickly go empty. In the best-case scenario, society laments its over-dependence on electronics and patiently learns how to pick up the pieces in the new dark ages.
Depending on which group of scientists you believe, the threat of a high-altitude electromagnetic pulse, or EMP, attack can range from an overhyped doomsayer fever dream to a grievously overlooked and near-existential threat to the United States – one in which the detonation of a single nuclear device above the Earth’s atmosphere could wipe out 90 percent of the U.S. population (and a sizable chunk of Canada’s, to boot) within a year. The reality, as tends to be the case, is somewhere in between.
The politicization of the issue, along with the highly classified nature of U.S. research into the weapons, makes the EMP issue a difficult one to assess. Nonetheless, with North Korean state media over the past year repeatedly threatening a high-altitude EMP attack against the U.S. – and with the North moving rapidly toward both a high-yield weapon (which is likely needed to pose a major EMP threat to the U.S.) and the ballistic missile capability needed to deliver it – the debate over the severity of the threat is certainly consequential. Given how quickly the crisis on the Korean Peninsula could break in any number of directions at the moment, any potentially relevant factor such as EMP merits scrutiny.
This Deep Dive surveys the state of the EMP debate and attempts to clarify what the points of disagreement tell us about the severity and geopolitical relevance of the threat. It also considers the strategic context in which a country like North Korea may be tempted to launch such an attack. Ultimately, it concludes that EMP is a threat, but the uncertainty surrounding its effectiveness makes it a far less valuable option than a standard nuclear attack. Moreover, however seriously U.S. leaders take the threat, they would respond to an attack as if it were a full-blown nuclear assault. Thus, from a strategic perspective, it would make sense for a “rogue state” like North Korea to conduct a high-altitude EMP attack only under a narrow set of circumstances – albeit ones that could result from the current state of the crisis on the Korean Peninsula.
How It Works
There’s nothing particularly controversial about the basic science of an EMP, and there’s little doubt that an electromagnetic pulse produced by the atmospheric detonation of even a simple low-yield fission device could cause at least some damage to critical infrastructure. After all, the U.S. and the Soviet Union conducted a combined 20 exoatmospheric nuclear explosions from the mid-1950s to the mid-1960s, creating on a small scale some of the problems that are being warned about today. Solar storms and lightning strikes have also caused relatively mild EMPs.
A high-altitude EMP attack would work like this: A nuclear device explodes at high altitude, somewhere between 25 miles (40 kilometers) and 250 miles above the Earth, producing powerful gamma rays that radiate outward. Upon colliding with molecules in the Earth’s atmosphere, the downward-directed gamma rays create a powerful electromagnetic energy field. The EMP doesn’t hurt humans directly, but it makes some electrical devices and attached cables act as antennas, hitting electronic systems with a surge of high-voltage current.

The EMP arrives in three phases – a near-instantaneous, powerful pulse known as E1, a subsequent high-amplitude pulse known as E2, and a slower and lower-amplitude (but still damaging) waveform known as E3. E1 causes most of its damage by inducing voltage in electrical conductors beyond what they can handle. E2 pulses behave similarly to the current produced by a lightning strike, and thus would likely be the least-damaging phase (assuming standard lightning protections haven’t been disabled by E1). E3, which can last from several seconds to several minutes, occurs when the fireball from a large detonation briefly warps the Earth’s magnetic field. Its effects are akin to those of a geomagnetic storm caused by solar flares. It feasts on long electrical conductors, such as power and telecommunications lines, allowing its effects to ripple outward.
The EMP field will extend to anything within line of sight of the explosion, meaning the pulse can, theoretically at least, wreak havoc across thousands of miles, depending on the altitude, the design and the power of the nuclear burst. In other words, a detonation at 60 miles above the Earth could expose an area with a radius of 700 miles on the Earth’s surface to the pulse. Given the interdependence of sensitive networked systems in the United States, such as power and communications systems, the extent of the damage caused by an EMP can cascade outward even farther.
Assessing Its Power
The potential damage that could be done by an EMP is difficult to assess – and thus prone to major disagreement within the scientific and national security communities – in part because it hinges on a vast array of factors. The first, of course, is the power of the EMP, which depends on things like the size of the blast and the altitude at which it is set off. The power of the EMP can also differ from one part of the globe to another, based on distance from the equator or the strength of the magnetic field of the region below. (Generally, the farther the blast is from the equator, and the stronger the magnetic field, the stronger the pulse.)
One area of debate about the EMP threat is whether a simple fission device with a yield of, say, less than 10 kilotons – the sort of device that would most likely be held by a fledgling nuclear state or non-state actor – would really be powerful enough to cause widespread damage. The power of the first phase of the EMP for a low-yield device is believed to be limited by the narrow range of altitudes at which it can be detonated while still causing significant damage. For example, a 1-kiloton device is believed to be strongest if detonated at around 25 miles above the Earth. If detonated much higher, the electromagnetic pulse would dissipate too much. If detonated much lower, deep inside the Earth’s atmosphere, it wouldn’t produce an EMP of consequence at all. (Any high-altitude EMP attack must be conducted at an altitude of 20 miles or above.) At 25 miles, the area of the Earth’s surface within line of sight of the blast, and thus theoretically exposed to the E1 pulse, would have a radius of some 440 miles.

Skeptics also argue that E1 from a low-yield device (by some estimates anything with a yield less than 100 kilotons) would also weaken considerably toward the periphery of the exposed region, shrinking the potential area of damage further to a 250-mile radius.

Moreover, low-yield devices produce a disproportionately smaller ionized fireball, which is what’s primarily responsible for the third phase of an EMP. Since E3 is most damaging to long power or communication lines – and the only phase capable of causing significant damage to underground or underwater cables – the current of high voltage wrought by a low-yield EMP is less likely to ripple outward beyond the directly exposed area. (It’s worth noting that a nuclear device could theoretically be designed to produce a “super-EMP.” For example, part of the shielding surrounding the fissile core of a device could be weakened in order to channel gamma rays downward. This can enhance the power of the E1 pulse somewhat, but doing so would not create an E3 pulse.)
By comparison, a megaton-yield bomb can be detonated at as high as 250 miles above the Earth and produce a strong enough E1 pulse to target a vastly larger area. Larger thermonuclear devices (also known as hydrogen bombs) also produce large ionized fireballs needed for the damage-magnifying E3 phase. Of course, larger nukes are much harder for states with rudimentary nuclear programs to both develop and deliver. That said, North Korea is edging toward making the debate about EMPs from a low-yield nuke somewhat moot. Estimates on the yield of its sixth and most recent nuclear test in September range from 70 to 280 kilotons. Notably, though, there’s widespread speculation that the bomb was not a two-stage thermonuclear device, as claimed by North Korea, but rather what’s known as a boosted fission device (considerably easier to develop than a thermonuclear bomb). This matters because thermonuclear devices are needed to create a large E3 pulse.
The vulnerability of various U.S. systems to such an attack depends on countless variables, making credible damage estimates even more elusive. There’s good reason, however, to believe that U.S. infrastructure isn’t exactly resilient to disruption. After all, geomagnetic storms (similar to what would be produced by an E3 pulse) produced by solar flares have already proved disruptive. In 1989, most notably, such an event knocked out power for much of Quebec and shut down trading at the Toronto Stock Exchange.
Part of the threat from a potential high-altitude EMP attack stems from the fact that, while increasing in sophistication, U.S. networks have in some ways also gotten far more fragile. For example, in the mid-20th century, when the only EMP tests to date were carried out, most electronics were designed to operate at a higher voltage than their modern counterparts do. The electronic components they relied on, such as vacuum tubes and induction coils for spark ignition rather than solid-state circuitry, were more likely to be able to handle a surge of voltage induced by an EMP. By comparison, today’s much smaller integrated circuits are believed to be nearly a million times more sensitive to an EMP shockwave.
Power, fuel, communications systems, and food and water distribution have all become much more dependent on electronics – for example, by replacing mechanical fail-safes with electronic ones – further expanding the reach of an EMP. Many critical system nodes have already been shielded to protect against potential sources of interference like an EMP. Still, given the interdependence of these highly networked systems, an EMP wouldn’t necessarily need to fry everything it touches on the ground to have a devastating effect. Rather, taking one critical piece of the system offline could, theoretically at least, have a cascading effect that leads to much broader systemic failure. This was demonstrated with the 2003 blackout in the Northeastern U.S. and parts of Canada, which lasted weeks in some areas and affected some 55 million people. This blackout was triggered by a software bug at a single power station in Ohio. According to a 2008 congressional report, modern transmission system grids have roughly half the standby capacity to tap into during emergencies compared to the 1980s and 1990s.
Potential Damage
Given all the variables involved in assessing the impact of a high-altitude EMP attack, along with the disagreements within the scientific community and the lack of publicly available information from classified U.S. research into the issue, estimates about the potential damage vary widely and tend to be short on empirical evidence.
A 2007 study examining the potential economic fallout of an EMP over the D.C.-Baltimore region indicated a wide range of estimated losses – from as low as $9 billion to as much as $770 billion, depending on how much of the region’s electrical grid and communications systems were shut down. According to the study, the time it could take for economic activity to be fully restored would likewise range from a month to several years.
The most routinely cited estimates come from a pair of assessments put together by the Congressional EMP Commission in 2004 and 2008. The commission had access to classified research and was allowed to conduct some testing of its own in a laboratory environment. Its findings weren’t optimistic. According to the 2008 report on critical infrastructure: “The cascading effects from even one or two relatively small weapons exploded in optimum location in space at present would almost certainly shut down an entire interconnected electrical power system, perhaps affecting as much as 70 percent or possibly more of the United States, all in an instant. … Should significant parts of the electrical power infrastructure be lost for any substantial period of time, the Commission believes that the consequences are likely to be catastrophic, and many people may ultimately die for lack of the basic elements necessary to sustain life in dense urban and suburban communities.”
The following year, the chairman of the EMP Commission told Congress that the damage in areas within the blast radius would be an order of magnitude worse than what Hurricane Katrina inflicted on the Gulf Coast in 2005 – and that a 90 percent fatality rate nationwide within a year due to starvation and systems breakdown was plausible. Since then, public officials, including a former CIA director, have routinely given credence to the 90 percent figure. But experts in the scientific community have dismissed this figure, along with a number of other commission findings, as speculative and/or contingent on factors that are basically impossible to model (the resiliency of modern-day humans without some of the trappings of modern-day life, for example).
Compounding the lack of clarity on the threat is the fact that a high-altitude EMP is almost impossible to test without putting major populations at risk, while the historical record tells us only so much about its potency. For example, in one oft-debated 1962 test, known as Starfish Prime, the U.S. detonated a 1.4-megaton nuclear warhead at an altitude of roughly 240 miles over the Pacific Ocean. To the surprise of the scientists, some 870 miles away in Hawaii, the EMP it produced took hundreds of streetlights offline, damaged some communications equipment and disabled at least three satellites in orbit. This could be interpreted as proof of concept or proof of hype. The device used was far larger than anything North Korea can likely produce anytime soon, and still it did not exactly send Hawaii back to the Kamehameha age. On the flip side, Hawaii was on the outer edge of the exposed area, its communication and electric lines are far shorter than those relied on in the mainland, and interdependence and microcircuitry were both far less of a potential problem in the 1960s. The test tells us only so much.
Perhaps more illuminating was a series of Soviet tests conducted over Kazakhstan at around the same time. A pair of 1.2-kiloton devices (too small for a strong E3 pulse), detonated at 95 miles and 185 miles above the Earth (too high for a strong E1 pulse), caused minimal damage to Kazakh infrastructure. Later, a 300-kiloton device set off at an altitude of 180 miles was believed to be far more damaging, taking out several overhead transmission lines and a key 600-mile underground power line (underscoring the importance of an E3 pulse), while leading indirectly to generator breakdowns and several fires. And, once again, the damage would likely be higher today than in the 1960s. The E1 pulse, however, was purportedly weaker than models would suggest. Available data is sketchy, but it does not appear to have sent Kazakhstan back to the Golden Horde age. The test, again, tells us only so much.
In sum, the damage wrought by low-yield devices would likely be limited both in geographic scope and, since it lacks an E3 component, the type of systems affected. Carrying out such an EMP attack successfully also carries a much smaller margin of error compared to large nukes. An EMP from a large nuclear device is capable of causing extensive damage to U.S. systems across a vast area, but it’s unclear to what degree it actually would – and there’s little publicly available evidence to support the most extreme estimates being warned about. The uncertainties surrounding its effectiveness would give any potential attacker pause before launching one, and likewise will make U.S. leaders hesitant to commit the vast resources that it would take to protect U.S. electronics systems against the possibility of one.
Could North Korea Pull Off a High-Altitude EMP

Still, even if the EMP threat is prone to exaggeration, it can’t be dismissed altogether – especially given that North Korea is moving toward the sort of high-yield nuclear weapons that have been most successful at generating damaging EMPs in the past. So it’s worth investigating what is perhaps the pivotal question: In what scenarios would it even make sense for a country like North Korea to resort to a high-altitude EMP attack? To put it bluntly, there aren’t many.
The main hurdle to a high-altitude EMP attack is the same argument against a nuclear attack – the threat of retaliatory annihilation. Even if the North were able to trigger an EMP with a nuclear device far more powerful than anything it’s tested to date (delivered via an intercontinental ballistic missile capable of carrying a heavier warhead than any rocket it’s tested to date), and even if the resulting EMP is as strong and effective as feared in the most extreme scenarios, it would not strip the United States of its ability to strike back. Most critical military equipment is hardened sufficiently to protect against an EMP, particularly strategic systems. Some military systems may still be adversely affected by the damage done to connected civilian systems – it’s impossible to test for every conceivable contingency, and certain problems reveal themselves only in a combat environment. But Pyongyang certainly could not assume that enough critical U.S. military systems would go offline to prevent the U.S. from striking back. More problematic, the U.S. nuclear triad – which includes nuclear submarines operating far out of harm’s way – is designed to ensure survivability.
Moreover, a high-altitude EMP attack cannot yet be conducted with any degree of stealth, nor in a way that would give the North any degree of plausible deniability (compared to, say, a state commissioning an attack using some sort of high-yield backpack bomb in Times Square). Until North Korea can make substantial leaps forward in its satellite program, a high-altitude EMP attack has to be conducted with long-range missiles. And to even attempt to paralyze the entire U.S., North Korea would be forced to launch multiple missiles. U.S. sensors would detect the launch and the trajectories would be consistent with a massed missile attack on the United States. American Defense Support Program satellites would detect the origin of the launch, and Pyongyang would have to assume that it would be interpreted as a direct nuclear attack. It would also have to assume that a U.S. retaliatory response would be underway within minutes.
Things go on autopilot from there, leaving no room to change course once it’s determined that the attack is not a conventional nuclear strike but an EMP. Decision-makers would not wait to see if an EMP attack lives up to the hype. (The speed with which this process unfolds undercuts the already dubious theory that a U.S. administration may deem a retaliatory nuclear strike following a high-altitude EMP attack as violating the principle of proportionality and simply stand down.)
So, in reality, the choice facing the North would be no different than if it were deciding whether to conduct a direct nuclear strike on the United States. And if the North gets to the point where thermonuclear war is an acceptable risk, it’s hard to see why it would waste its limited arsenal of nuclear warheads on unproven EMPs rather than on trying to incinerate Los Angeles.
At this point, it would make sense for the North to launch a high-altitude EMP attack in only one scenario: if it were faced with a choice to either use it or lose it.
The main limitation of North Korea’s nuclear program is the unproven state of the re-entry technology of its growing arsenal of long-range missiles. Making sensitive components such as the guidance systems of an ICBM survivable as the missile returns from space to the Earth’s atmosphere is extremely difficult. The North has yet to demonstrate re-entry capability in any of its missile tests, and the way the U.S. talks about the state of the North’s program suggests Washington believes the North isn’t quite there yet. It’s possible that it is and just isn’t showing it, but let’s assume that Pyongyang is still in the exceedingly dangerous window between developing a nuclear weapon and not yet being able to deliver it with any degree of confidence.
If the North finds itself under attack by the United States and determines that it will soon be denied the chance to master re-entry technology, attempting a high-altitude EMP attack may be one of its few remaining cards left to play. This is because a high-altitude EMP attack does not require sophisticated re-entry or guidance technologies. The device is detonated above the atmosphere, after all. In this way, EMP can serve as a sort of bridge between the North’s status as nuclear aspirant and full nuclear power.
Of course, this would still invite massive retaliation from the United States, escalating what may be a concentrated effort to uproot and disarm the current regime to annihilation. Maybe Pyongyang cares about protecting North Korean civilians from such a fate. Maybe it doesn’t. It certainly would like the U.S. to think that the U.S. homeland can’t avoid the consequences of war in any scenario. That’s the logic of credible nuclear deterrence anywhere.
This is why the North has floated the possibility of an EMP attack. It knows the U.S. knows it still needs time to make its traditional nuclear deterrent credible, and it’s looking for ways to stall a U.S. attack until it crosses the Rubicon. An EMP attack may or may not live up to the hype. But the possibility that it could cause serious problems for the U.S., combined with the possibility that the North will empty its chamber when under attack even if doing so invites massive retaliation, gives the U.S. one more factor to consider before moving forward with the military option.