Complexity Wins Again

By John Mauldin 

Here in Puerto Rico we are now an hour ahead of Eastern Time, as we don’t do daylight savings time. I stayed up much later than normal on election night to watch the returns. I knew fairly early, when Florida and North Carolina looked so close, we weren’t going to see a “blue wave.” But beyond that, it was clear the presidency would not be settled that night.

We did learn one thing with high confidence, though. The political polls were seriously, dreadfully wrong. Biden’s comfortable lead both nationally and in swing states bore very little resemblance to actual voting. This follows a similar miss in 2016.

It will take time to nail down the precise error, but we will be told, “Something was different this time.” Well, of course. “Something” is always different. The polling industry’s conceit is that it knows how to collect meaningful samples and then adjust them to resemble the pollsters’ assumed reality. The assumption can be wrong, and often is.

Understand, pollsters are paid to try to get things right. The true professional pollsters try to get it right and most still missed it.

In that regard, the political polling profession resembles the economics profession, which believes its elaborate models can reveal the future. Both fail because they try to measure incredibly complex systems that change in ever-changing ways. Similarly, professional epidemiologists try to create virus models. They’ve done better than political pollsters and economists, but they also must make assumptions.

Today I want to use the election to illustrate just how complex a seemingly simple situation can be. This matters not just politically, but economically as well.

Assumptions and Guesswork

The first challenge is our complex method for electing a president. We don’t have a national election. Each state gets a certain number of Electoral College votes, which go (all or nothing) to the winner of that state’s popular vote (with a couple of exceptions I won’t discuss).

This means the national popular vote, while interesting, has no bearing on who becomes president. Pollsters still measure it, though, because people are curious and it’s relatively straightforward.

Except, it’s not straightforward at all. You can ask people how they will vote, and they may tell you, but it won’t matter unless they actually vote. Pollsters try to control for this with “likely voter” models. Sometimes they assume you will vote this time if you voted last time (which they can confirm from public records). Or they may ask questions to gauge your intent. Regardless, these models are still guesswork.

This year brought even more complexity due to the coronavirus. Will you still vote if you believe it will risk your health and possibly your life? Maybe, maybe not. Not everyone thinks that risk is significant, and these attitudes aren’t equally or predictably distributed.

State officials introduced yet more complexity with new voting methods, expanded mail-in voting, etc. These vary by state, and in some cases changed at the last minute. No one knew, or could know, how this would affect turnout. The fact that we have the largest turnout since 1900 (percentage wise), with a significant number of first-time voters, skewed the polls even more.

We all now know about Florida. Biden was on average +7 yet lost by more than three percentage points. If you bothered to look at Susan Collins in Maine you get another skewed example. She was basically down in every poll anywhere from a few points to 10+. I remember meeting Susan Collins for the first time three years ago on my annual fishing trip in Maine, along with 50 other economists/investment analysts, investment writers, etc. I’ve met more than a few politicians in my lifetime. I have never met a better retail politician, one-on-one, than Susan Collins. She just gets into your space and you like it. You end up wanting to help her. And that likability, plus her ability to strategically vote against her own party, will apparently keep her in the Senate six more years.

So even if we did have a single national election, measuring it was going to be tougher than ever this year. But in fact, you have to multiply this complexity 50+ times to account for the state-level silos in which the elections are held.

Then there’s the geographic element. Pollsters try to measure choice and turnout by area, both because it’s important to local races and because the electoral college system forces them to. It doesn’t really matter if a candidate wins a state by 50.1% or 75%. They get the same number of electoral votes. So high turnout in one state can’t offset low turnout somewhere else. You have to estimate it separately everywhere.

But pollsters have a more basic problem. Before any of the above matters, they need people to answer the phone.

“The Tiniest Inconsistency”

As you are no doubt aware, technology has changed the way we communicate. Does your home still have a landline phone? (I haven’t, for well over a decade.) If so, do you answer it? Particularly in campaign season when you get so many robocalls? If you have an iPhone, have you activated the “Silence Unknown Callers” feature? Mine now happily tells me about spam risk, likely sales calls, and so forth.

These are serious problems for pollsters. They need to reach a certain number of people, and it’s getting harder. I saw an interesting article in The Sydney Morning Herald this week. It’s by an American political scientist who teaches in Australia.

In the age of the mobile phone, very few people answer calls from unlisted numbers, and even fewer want to talk to a pollster—who, for all they know, may be a fraudster in disguise. The Pew Research Centre reports that its response rates have plummeted from 36 per cent two decades ago to just 6 per cent now. And Pew is a not-for-profit outfit that doggedly attempts to contact every sampled phone number at least seven times. Commercial polling firms don't have that luxury.

No major commercial polling company is brave enough to reveal its response rate. Rumors are that they're down to about 3 per cent. That's a very thin foundation on which to predict a presidential election. The tiniest inconsistency between the characteristics of that 3 per cent and those of the electorate as a whole could invalidate the entire industry.

The pollsters do their heroic best to model the likely behavior of the masses from the self-reports of a few phone-answerers, but all such models are approximations. They inevitably introduce error. Model error may be even bigger than the sampling error that goes into calculating the "error margins" that are often reported alongside polling data. Or it may not be. No one knows but the pollsters, and they're not saying.

He also talks about “social desirability bias,” which is basically a reluctance to reveal your vote choice to a stranger. We heard stories before the election of “shy Trump voters.” 

I imagine there were also shy Biden voters. It’s understandable in a nation so polarized and bitter that expressing political opinions can cost you friends or even your job. But it makes accurate polling even more difficult.

But zero in on this line: “The tiniest inconsistency between the characteristics of that 3 per cent and those of the electorate as a whole could invalidate the entire industry.” We have now seen in successive elections inconsistencies well beyond tiny. What other industry could survive such failures?

I can think of at least one.

Moving Parts

If measuring voters is complex, measuring the economy is even more so. 

Think of all the moving parts just in the US. Millions of companies, hundreds of millions of workers and consumers, buying and selling billions of different goods and services under sharply different conditions in different places, and all of this subject to change at any time.

Just think of jobs data. How many Americans are unemployed? Certainly it is a big number. We who are fortunately still employed all have jobless friends and family. But is it 10 million, 20 million, 50 million? 

Over 21 million people are still claiming some type of weekly unemployment insurance as we go into the weekend.

The numbers we have come from surveys, not unlike the political surveys and with similar limitations. When a stranger calls you on the phone to inquire about your job status, will you take the call? And if you do, will you answer honestly? 

And even if you do, exactly what does it mean to be “unemployed” now? 

Maybe you lost your full-time job but you spent a few hours last week helping someone move. You made $100 and you will count as “employed” but your situation is not remotely like it was when you went to an office every day.

Apply that same level of complexity to all the other economic numbers: trade flows, retail sales, savings rates, manufacturing output, real estate, bank lending, and everything else. Much of it is questionable at best. 

Yet economists still include it in models which are themselves filled with assumptions about the relationships between various inputs. They show their models to government leaders, CEOs, and central bankers, who then use them to make important decisions that affect you and me.

Is this good? That’s also unclear. I’ve told the story of the World War II weather forecaster (an officer named Kenneth Arrow, who later became one of the most famous Nobel laureates of the last century) who knew his forecasts were error-prone, and worried the generals would rely too much on them. But the generals knew this. They demanded forecasts anyway. Why? Because they needed something, even if it was wrong.

On that point, I have a little sympathy. Every writer knows that “blank page” feeling. Getting started is the hardest part. I may end up deleting that first paragraph I struggled to write, but it was still useful. I suppose these models have similar value to decision-makers.

On the other hand, there are limits. If the weather forecast said partly cloudy and you got a thunderstorm instead, it may ruin your day. Oh well. But it matters a lot more when you expect partly cloudy and you get a Cat-5 hurricane. It will ruin more than your day. Thankfully, our weather forecasting methodology is improving, if not perfect. 

Modern technology lets us see the hurricane coming and prepare. (Although this year, to be honest, Shane and I went through the entire hurricane preparation ritual, just to have a hurricane veer off at the last minute right before it got to Puerto Rico. We didn’t complain.)

The real problem, with both political polls and economic models, is when users rely too much on them. They give us an (often false) feeling that we know the future, which gives us comfort. We can see the margin of error footnote in the polls, we can hear the pollsters’ warnings and caveats, but on some level we want to believe. 

It’s human nature that’s hard to avoid. And it is especially hard when those models tell us something that we want to believe. It is called confirmation bias, and is one of the most difficult of all the emotional baggage that we bring to our investment decisions.

The word “presuppositionalism” typically refers to a particular theology, but I use it in a broader context. We all start out from a beginning point in our thinking. We believe our eyes see the real world. We believe some of what we read and what we hear from friends. 

These shape our thought patterns and what we presuppose to be true. Without these presuppositions it would be extremely difficult to communicate with other people. (As a matter of personal discipline, I constantly question my own presuppositions. Sometimes I change them.)

Here’s the problem. Every person who creates a model does so with specific presuppositions in his or her head. You can try to get those presuppositions out of your models, but it is very difficult.

The Bias in Models

Let’s first talk about mainstream economic models from large government and major investment companies. I talked about a CBO model a few weeks ago and have used and abused it over the years. First, they never predict a recession. But it is not just the CBO. I wrote this some seven years ago and nothing has changed since.

In one of the broadest studies of whether economists can predict recessions and financial crises, Prakash Loungani of the International Monetary Fund wrote very starkly, "The record of failure to predict recessions is virtually unblemished." He found this to be true not only for official organizations like the IMF, the World Bank, and government agencies but for private forecasters as well. They're all terrible. Loungani concluded that the "inability to predict recessions is a ubiquitous feature of growth forecasts." Most economists were not even able to recognize recessions once they had already started.

In plain English, economists don't have a clue about the future.

Take the record of Wall Street strategists. The clear average of blue-chip economists always predicts a positive year for the S&P 500. Federal Reserve economists are like 0 for 300 on their predictions about the direction of the economy and only slightly better on interest rates. The record has improved somewhat since they now plan not to raise rates for anything, even if we have inflation. That makes predictions a great deal easier.

Retirement Meltdown

This problem with models and predictions may be personal, too. Your retirement likely depends on some kind of model. It tells your financial planner how much you can withdraw from your savings without running out too soon. But that advice depends on questionable presuppositions like “stocks always go up over time.”

My friend Ed Easterling at Crestmont Research notes there have been numerous 20-year periods where stock market returns were below zero, especially when taking into account inflation. Ed’s website has one of the best data treasure troves anywhere:

A number of advocates and studies provide for 5% withdrawal rates: “I only want $50,000 from my million dollars” and have it last for 30 years. The calculated success rate for that rate of withdrawal is 73%. Pretty good odds…except when we consider the impact of valuation.

“SWR” stands for Safe Withdrawal Rate, and the safe amount varies considerably depending on market valuations when you start. The table shows that if you are in the top 25% of valuations and each year withdraw 5% of your $1 million retirement savings (to generate $50,000 for living expenses), you would run out of money 53% of the time. On average you have less than 21 years of retirement then run out of money. Good luck if you are still alive and kicking.

With valuations in the top 10%, like they are today? It is even worse.

If your financial planner says you can take out 5% per year “safely” based on a 60/40 (stocks to bonds) portfolio, then you should take your papers and walk out the door.

Furthermore, many planners use a total return model which starts in the 1920s and shows that over time markets will give you an 8 to 9% return. They simply (and lazily) plug in that 8–9% number for each and every future year, assuming that time will take away the effects of a bear market and recession. 

And that is probably true if you have 80 to 90 years. If, however, you are retiring when the markets are at a very high valuation, like now, your model will likely give you really bad advice.

Pension funds are going to get devastated in this decade. 

So are many retirees. 

And it all comes from bad models on top of more bad models. It’s a big problem. But maybe technology has a solution.

AI to the Rescue?

Last week I mentioned I had been thinking a lot about the artificial intelligence field. This election gave me even more food for thought. The latest AI systems, paired with powerful supercomputers (and soon quantum computers) can process massive data sets that are incomprehensible to humans. Complexity doesn’t scare them. They can dig in and make sense of it.

Now, combine that thought with our political polling and economic modelling challenges. Could AI be the answer? Can the machines process these complex data sets well enough to make them not just a starting point, but useful and accurate? AI will contribute to radical changes in the way we make important decisions. This may be the biggest technology trend of our lifetimes.

I’m happy to announce we have a new Mauldin Economics video on the things every investor should know about AI: how it works, what the main subsectors are, its huge economic impact, and the profit opportunities it offers. We’ll unveil it online on November 9 at 2:00 pm EST. It’s free if you register in advance here. Registrants will be able to watch a replay later, too. I hope you’ll join me in learning more about AI.

Puerto Rico and Dallas

This has been a most unusual year for me, with less travel than I can remember for the last 40 years. I will, however, go to Dallas for a “small” Thanksgiving dinner with my kids and family, not the usual invitation for several dozen extra guests. I will get there early enough to go grocery shopping and cook, and hopefully meet some friends. There might be one other trip in my future before the end of the year, but I’m doing my best to get them to come to me.

As a side note, there is so much opportunity here in Puerto Rico it is hard to get your head around it. And we have a new government which has replaced a lot of the cronyism and corruption. It’s kind of like the beginning of baseball season. Everyone has high hopes.

And with that I will hit the send button. I wish you a great week as we all hope that we can finally know how the elections turned out, up and down the ballots. The surprise to me was how many House seats the Republicans were able to take. I was expecting, as were many, that the party would lose seats. Many are still in play. Certainly not enough to take control, but I find it interesting in an inside baseball kind of way.

Your as skeptical as ever of models analyst,

John Mauldin
Co-Founder, Mauldin Economics

 Critical Juncture 

Doug Nolan

We’ve grown accustomed to the “new normal”: Stock market ebullience even as the country suffers through a distressing confluence of hardships. The S&P500 surged 7.3% this week, the strongest weekly advance since April. 

Though the 2000 recount and supreme court decision were not without drama and enmity, when has our country struggled through such a distressing election season?

As Democrats headed into the election with commanding leads in most polls, a malleable bullish narrative shifted to a “Blue Wave” (and resulting massive stimulus) being great for stocks. With Joe Biden the apparent President-elect and Republicans poised to hold the Senate, the narrative has switched to "divided government is beautiful for the equities market". 

The prospect of a divided Washington would seem to take some pressure off the vulnerable Treasury market – and, through lower Treasury yields, corporate Credit more generally. And I appreciate that divided government has in the past worked to the advantage of the bull market status quo. But are we to believe in today’s crisis backdrop an irreconcilably split and hostile Washington will somehow function to the benefit of the markets and our nation?

I have never been more concerned. Having watched “money” and Credit run increasingly amuck over recent decades, I have long harbored fears of an inescapable future of calamitous financial, economic, social, political and geopolitical instability. That future is now unfolding. 

I posited that the U.S. election was the single largest event in terms of market hedging – much of it through derivatives. Moreover, this most hedged event was occurring in a most speculative market environment, having followed an unprecedented $3.0 TN expansion of Federal Reserve “money.” 

Odds were high this was not going to go smoothly. In the event of an outcome hostile to the markets, sinking securities prices had the potential to spur massive self-reinforcing derivatives-related selling. But if an adverse outcome didn’t materialize, the unwind of hedges could spur markets higher while stoking speculative excess.

The Nasdaq100 (NDX) surged 9.4% this week. More than a third of NDX stocks posted double-digit gains for the week. Facebook jumped 11.5%, Tesla 10.8%, Microsoft 10.5%, Apple 9.2%, and Google 8.7%. Qualcomm surged 17.6% and Nvidia jumped 16.2%. Options trading – institutional and retail – has been booming, with the big tech stocks as favorite targets. This key aspect of the raging speculative Bubble this week worked to propel huge price spikes.

Ten-year Treasury yields sank 13.5 bps in Wednesday (post-election) trading, a huge move that pushed yields down to 0.765%. Sure, the Republican hold on the Senate would reduce the likelihood of massive (possibly $3 TN plus) fiscal stimulus programs. 

Yet short covering and the unwind of hedges clearly played an instrumental role in the Treasury price spike. Treasury yields were back up to 0.82% by Friday, ending the week down a not earth-shattering 5.5 bps.

Perhaps the week’s most intriguing (consequential?) moves were in the currencies. The U.S. dollar index declined marginally Wednesday in the face of surging equities, Treasuries and corporate debt prices. But the dollar was slammed 1.1% Thursday and then added to losses on Friday – with the dollar index ending the week down 1.9%. 

Wild currency volatility does not bode well for general financial market stability. Gold jumped $73 this week to $1,951, with Silver surging 8.5% to $25.66.

Post-election unwind of shorts and hedges coupled with the sinking dollar incited panic buying throughout the emerging markets. The iShares Emerging Markets (EEM) ETF (with a 120 million shares short position) surged 7.2% this week, trading to the high since April 2018. Major indices were up 11.0% in Poland, 6.9% in Russia, 7.2% in Turkey, 6.9% in Chile, 5.8% in India, 4.2% in Mexico, and 7.4% in Brazil. 

In EM currencies, the Brazilian real jumped 6.8%, the Czech koruna 4.6%, the Polish zloty 4.3%, Hungarian forint 4.2%, South African rand 4.1%, Colombian peso 4.0%, Indonesian rupiah 2.9%, Mexican peso 2.8%, Russian ruble 2.7% and Chilean peso 2.7%. Ten-year dollar bond yields collapsed 60 bps in Ukraine, 33 bps in Turkey, 30 bps in Turkey, 25 bps in Mexico and 22 bps in Indonesia. Local currency yields sank 43 bps in South Africa, 36 bps in Russia, 25 bps in Peru, and 22 bps in Hungary. 

The Euro Stoxx 50 equities index jumped 8.3% this week. Germany’s DAX and France’s CAC40 equities indices both surged 8.0%, with major indices up 9.7% in Italy, 6.5% in Spain and 6.0% in the UK. Stocks were up 4.3% in Japan (Nikkei 29-year high), 6.7% in Hong Kong, 4.4% in Australia and 4.5% in Canada. 

Was the U.S. election outcome really so overwhelmingly positive for securities of all stripes everywhere? I would argue it was yet another example of an overreaction from dysfunctional markets – an upside dislocation in highly synchronized markets dominated by derivatives and speculative trading. 

From my analytical perspective, it was further corroboration of the late-stage global Bubble thesis. Markets have grown incapable of adjusting to developments in an orderly and reasonable manner.

President Trump has called into question the integrity of the entire U.S. election. The nation now faces the ugly prospect of a contested election. The President had intimated that such an outcome was possible. I was hoping he would surprise us all by demonstrating restraint. I’m still hopeful that he can be convinced not to put the country through such an ordeal – especially at a critical juncture.

Covid is just a flu. No, Covid is historic with myriad far-reaching ramifications. It is leaving deep scars. The death count has surpassed 235,000. It has left millions without jobs. 

The virus has illuminated inequality in newfound ways – certainly including a booming stock market in the face of acute economic and social hardship. It has left society only more insecure, anxious and on edge. It altered the character of what was already a pivotal election. 

The pandemic spurred a shift to mail-in ballots – which changed the nature and timing of the vote count. This has opened up the opportunity to delegitimize an election despite record participation. And losing faith in the election process – in the core of our democracy - is but one more of our nation’s sacred institutions today placed squarely In Harm’s Way.

It is deeply disappointing to witness an election where seemingly everyone comes out of the process only further disillusioned. The election was not perfect. How could it be, with record participation during a pandemic? There are issues to be investigated and adjudicated. But this is not the time to exploit peoples’ frustration and exasperation. Social strife is at the cusp of boiling over. 

It was shocking and disheartening to hear the President call the election a fraud. It’s appalling that popular talk show hosts incorporate disinformation and sophisticated propaganda methods to incite outrage. This is getting too close to openly inciting violence in the streets. 

Has it really come to this? An election loss unleashing a scorched earth strategy. 

There’s too much at stake during this critical period for efforts to delegitimatize the election and the new administration. 

I’ll still assume that the national interest prevails over individual and partisan ambitions. Politicians and the media surely recognize our nation has become a tinderbox. They have a moral responsibility to deescalate the situation. A smooth and peaceful transition of power has never been more critical. 

I have been waiting anxiously for the election to be completed so attention could be focused on the spiraling out of control pandemic. We’re in a crisis – and the “gridlock is great for stocks” narrative lacks credibility. What is in store for the final 11 weeks of the Trump presidency? 

Hopefully his administration will work closely with Biden’s transition team on a host of issues – with vice president Pence redoubling the Coronavirus task force’s focus on a national Covid strategy.

Friday’s new infections surpassed 125,000. Cases are surging in an increasing number of states. Hospitalizations are rising rapidly nationally, with an expanding number of communities facing healthcare crises. And, increasingly, state and local officials are under pressure to adopt measures to try to control the outbreak. Let’s put politics aside and focus on getting this pandemic under some semblance of control. 

“In America, we hold strong views. We have strong disagreements – and that’s OK. Strong disagreements are inevitable in a democracy. Strong disagreements are healthy. 

They are a sign of a vigorous debate – of deeply held views. We have to remember, the purpose of our politics isn’t total unrelenting, unending warfare. No. The purpose of our politics – the work of the nation - isn’t to fan the flames of conflict but to solve problems; to guarantee justice; to give everybody a fair shot; to improve the lives of our people. We may be opponents, but we are not enemies. 

We’re Americans. No matter who you voted for, I’m certain of one thing: the vast majority of the 150 million Americans that voted – they want to get the vitriol out of our politics. We’re certainly not going to agree on a lot of the issues, but at least we can agree to be civil to one another. We have to put the anger and the demonization behind us. 

It’s time for us to come together as a nation and to heal. It’s not going to be easy. We have to try. My responsibility as President will be to represent the whole nation. And I want you to know, that I’ll work as hard for those that voted against me as those who voted for me. That’s the job. That’s the job. 

It’s called the duty of care – for all Americans. We have serious problems to deal with: Covid, the economy to racial justice and climate change. We don’t have any more time to waste on partisan warfare. And more than that, we have such an incredible opportunity to build the future we want for our kids and our grandkids. I’ve said many, many times: I’ve never been more optimistic about the future of this nation. 

There is no reason we can’t own the 21st century. We just need to remember who we are: This is the United States of America. There’s never been anything, anything we’ve been unable to do – unable to accomplish when we’ve done it together.” Joe Biden, November 6, 2020.

This is a Critical Juncture in our nation’s history. Let’s agree to disagree on many issues. Let’s be civil. We desperately need more listening and less villainization. Can we not be more tolerant? As a nation, we need to bring the temperature down. We should hold those inciting anger and violence accountable. 

We desperately need to begin the process of unifying our great nation as we confront more challenging times ahead. I very much appreciate Mr. Biden’s tone. 

Let’s give him a chance. 

When every vote counts

What the 2020 results say about America’s future

Joe Biden looks set to govern over a deeply divided country

Months of frantic electioneering, $13.9bn of campaign spending, a raging pandemic and mass protests over race: in spite of all the sweat and tears, America was still determining as we went to press if its next president really would be Joe Biden or whether Donald Trump might somehow wrangle a second term. Congress is likely to be split between a Democratic House and a Republican Senate—though even that result may remain in doubt until a run-off in January.

In the coming days politicians should take their cue from voters, who turned out in greater force than in any year since 1900 and who made their choice without violence. Vote-counting must run its course and disputes between the two campaigns be settled within the spirit of the law. 

The biggest threat to that comes from Mr Trump, who used his election-night party to claim falsely that he had already won, and to fire up his supporters by warning that victory was being stolen from him. Coming from a man sworn to safeguard America’s constitution, such incitement was a reminder why many, including this newspaper, had called for voters to repudiate Mr Trump wholesale.

With Mr Biden’s victory they would take a crucial first step in that direction. Only once in the past 40 years has a president been denied a second term. Mr Trump will lose the popular vote by, we reckon, 52% to 47%—only the electoral college’s bias towards rural voters saved him from a crushing defeat. That is a repudiation of sorts.

A Biden White House would also set a wholly new tone. The all-caps tweets and the constant needling of partisan divisions would go. So would the self-dealing, the habitual lying and the use of government departments to pursue personal vendettas. Mr Biden is a decent man who, after the polls closed, vowed to govern as a unifier. His victory would change American policy in areas from climate to immigration. That is a form of repudiation, too.

And yet the unexpected closeness of the vote also means populism will live on in America. With this election it has become clear that Mr Trump’s astonishing victory in 2016 was not an aberration but the start of a profound ideological shift in his party. 

Defying expectations and covid-19, he has won millions more votes in the huge turnout of 2020 than he did in 2016’s moderate one. 

Far from being swept away in a blue wave, Republicans have gained seats in the House and seem set to keep control of the Senate. The Republican Party, which fell under Mr Trump’s spell while he was in office, is not about to shake itself out of the trance now. 

It is even conceivable that Mr Trump, or a member of his family, could run for the White House in 2024.

The outside world, which has been watching this contest with rapt attention, will draw two conclusions from America’s failure to reject Trumpism more decisively. The first will be among populist nationalists who look to Mr Trump for inspiration and who will now reckon that their brand of politics has a brighter future outside America, too. 

An abject defeat for Mr Trump may have spelled trouble for politicians like Jair Bolsonaro in Brazil and Marine Le Pen in France. Instead Nigel Farage, formerly the leader of the Brexit Party, is busy planning his comeback. The persistence of Mr Trump’s support suggests that the rejection of immigration, urban elites and globalisation, which gathered pace after the financial crisis of 2008-09, still has further to run.

The second conclusion is to be wary of relying on America. Mr Trump has been a disruptive, transactional force in foreign affairs, contemptuous of alliances and multilateralism. Mr Biden, by contrast, is steeped in the traditional values of American diplomacy from his time in the Senate. 

He would doubtless seek to restore close ties with allies and to strengthen global governance, by for instance, remaining in the World Health Organisation and rejoining the Paris agreement on climate change. But after this election result, everyone will know that it could all revert again in 2024.

At home the picture is more complicated, but it contains lessons for both parties—and for their stewardship of America. The hardest message is for the Democrats. Their failure to take the Senate means that Mr Biden will struggle to pass bills or appoint judges. An infrastructure bill, health-care reform and environmental laws could all be blocked by Congress.

That failure partly reflects the Democrats’ inability to attract white, non-college-educated voters, especially in rural America. They also fared less well than expected among young African-American men and Hispanic voters in Florida and Texas. These losses undermine the Democrats’ assumption that, just because America is becoming less white and more suburban, they are destined to win elections. 

Rather, they will need to earn support by countering Republican claims that they are against free enterprise and that fringe obsessions with identity politics are becoming an oppressive Democratic orthodoxy.

Republicans face lessons, too. Trumpism has its limits. If they block all legislation in the Senate so as to discredit Mr Biden, it will mark yet another electoral cycle in which the gridlock and the zero-sum logic of partisanship prevent America from grappling with its problems. Republicans will tell themselves that discrediting the Washington machine helps the party that claims to stand for limited government—however swampy the Trump administration proved. That view is as short-sighted as it is cynical.

Red-lesson day

Those black and Hispanic voters who came over to their side this week suggest that Republicans can win minority support and that ethnic groups are not monoliths. Republicans are seduced by a dangerous identity politics of their own, which stirs up white fears of a multiracial country. 

How much better if they made a positive case for their party, seeking to expand their base by earning their share of the credit for, say, bills to reform criminal justice or upgrade America’s creaking infrastructure.

This election has once again shown that America is a divided nation. Many of its politicians set out to feed the divisions, and none has divided more than Mr Trump. 

We hope that his defeat will stand as a lesson that it doesn’t always work. 

China risks cementing its structural flaws

An over-reliance on state investment persists

The editorial board 

Beijing’s intervention has often involved funding projects, notably in the construction sphere, that can have little economic purpose other than to spur demand © Qilai Shen/Bloomberg

There is much to admire in China’s recovery. Between the second and third quarters, its economy expanded by 4.9 per cent. It is unique among the world’s largest economies in that the IMF expects it to avoid a contraction this year. That owes much to Beijing’s success in stamping out Covid-19, along with the country’s manufacturing prowess. Yet, digging into the numbers, the picture is not quite as rosy as it may seem.

Long before the pandemic, the world’s second-largest economy looked dangerously unbalanced. Beijing has placed a tremendous amount of focus on the headline gross domestic product figure as a measure of its economic prowess. A consequence has been that, when growth has been at risk of falling to levels deemed by the Chinese Communist party to be too low, the state has engaged in aggressive intervention.

That intervention has often involved funding projects, notably in the construction sphere, that can have little economic purpose other than to spur demand. It has also led to levels of investment of state-owned enterprises far exceeding the contribution made by the private sector.

Debts by public municipalities ballooned in the aftermath of the 2008 financial crisis. Amid the pandemic, this appears to have happened again. In the first nine months of the year, fixed asset investment by companies not owned by the Chinese state was down 1.5 per cent from a year earlier. For state-owned enterprises it was up 4 per cent in the same period. China commentators have frequently warned that over investment in areas such as real estate was leading to a vast pile-up of probably bad loans.

There are several reasons to think this imbalance between private and public investment — and the resultant threat to long-term growth — could worsen. China has responded to the pandemic by closing its borders to an extent that it is now nigh-on impossible for foreigners to gain access to it. If representatives of businesses from places such as Germany are no longer able to visit, one would expect to see a drop in inward investment as a result. Geopolitical tensions between China and its trading partners are also having an impact. The friction is not only with the US. The Japanese government has said it will pay companies to stop using Chinese factories. South Korea has adopted a similar strategy.

China has sought to rectify this global retrenchment through a model which President Xi Jinping has dubbed “dual circulation”. The idea formalises a long-touted push to provide more growth through domestic demand, allowing the economy to survive a decoupling from the rest of the world by consuming more of its own produce itself.

There are signs that domestic demand is faring better. Imports surged to their highest level so far this year in September. Retail sales have also recovered — though at a slower pace than overall GDP. Yet household consumption makes up less than 40 per cent of output here, compared with about 65 per cent to 70 per cent in most advanced economies.

China’s return to growth is the one real bright spot in a dismal global outlook. Its resurgence has helped provide impetus for strong export figures elsewhere too, notably in Europe. It is in no one’s interest for it to falter at a time when second waves in caseloads are threatening to trigger double-dip recessions in other advanced economies. 

However, without a revival in private investment, there is a risk that any boost in the coming quarters will rely too heavily on factors that in the long term threaten to do more harm than good.

One Table And Two Charts Show Why Stocks Are A Bad Place To Be


US stocks are behaving amazingly well given the political and economic near-chaos of the past few months. This is probably the first recession that inflated rather than popped financial asset bubbles.

Why? Because panicked governments and central banks are dumping trillions of play-money dollars into the system, a big part of which flow directly into the brokerage accounts of the 1%.

The result is a stock market that looks very familiar to financial historians. But not in a good way. Here’s a table from money manager Lawrence Lepard comparing today’s S&P 500 to its predecessor at the peak of the 1990s tech stock bubble.

And here’s what the S&P 500 did following that 2000 valuation peak:

Next is a chart from Hussman Funds (always a good source of terrifying stock market visuals) showing the S&P 500’s behavior as it fluctuates around Hussman’s favorite market valuation measure. Their explanation:

The chart below is a reminder of where the S&P 500 stands relative to levels that we would consider “durable.” The blue line shows the S&P 500, the green line shows our best estimate of historical valuation norms at each point in time, and the red line shows “durable” levels in the S&P 500 that were never again breached in later cycles. 

Notice in particular that market advances toward valuation norms (that is, blue line below green line) tend to be durable. In contrast, market advances far beyond valuation norms (blue line above green line) tend to be transient, and are often wiped out over the completion of the market cycle, or even the following market cycle, as was the case in 2009.

This pattern points to an imminent give-back of the past few years’ overexuberant gains.

And last but not least, zombies

Another effect of long equity bull markets is a growing population of companies that are only viable in the easiest of easy money environments.

“Zombie” companies, for instance, have debt service costs that exceed their profits, so they can’t survive without continuous infusions of new capital. They are, not surprisingly, the first to go when financial conditions become even slightly less easy. And there are now more of them than ever before. Chart courtesy of Real Investment Advice.

Clearly, this is another of those “peak insanity” markets that emerge during credit bubbles. Here’s why it matters so much today: This level of financial fragility and equity overvaluation gives the financial markets veto power over government policy. 

If future administrations and/or central banks even think about tightening fiscal or monetary conditions, the air pockets under stock prices will act as a deterrent, leaving governments around the world with no choice but to stay their current course. That means zero-to-negative interest rates and massive ongoing credit creation basically forever.

So the question becomes, what unintended consequences will flow from emergency levels of monetary ease becoming permanent? 

This, at least, is easy to answer: Inflation, extreme volatility, currency crisis, and soaring gold and silver.

An ugly world, in other words, but one full of opportunities.

Social Media Is Old-Fashioned and Radically Destabilizing

Thoughts in and around geopolitics.

By: George Friedman

The New York Times has reported that the Justice Department is about to bring an antitrust suit against Google specifically targeting Google’s power in online advertising. 

There are two things to note before the courts issue their ruling. The first is that though Google, Facebook and Twitter all pride themselves on overturning the past – and from a technological point of view they do – their core business model is quite old. 

Like newspapers and television, they provide readers with free access to content, and in return they are able to advertise to them. By giving readers free content, they can analyze our habits and interests and sell the data to advertisers. Newspapers, radio and television did the same thing.

Second and more important, Google, Facebook and Twitter don’t really create their own content. Newspaper articles, radio programs and TV shows were produced for the readers. Publishers and networks were responsible for what they provided the public, and they had a substantial cost structure that had to generate revenue in a complex, symbiotic relationship. Google, Facebook and Twitter deferred the cost but claimed the responsibility for their content.

Google created a search engine that mapped out the internet, allowing readers to find content they were interested in. Facebook and Twitter simply allowed readers to use their platforms to state their views and read the views of others, and in doing so became the subject of advertising. The key for all three was that at the outset they claimed they were not responsible for their content.

The problem of monopoly in advertising is less critical than the means by which these companies attracted members. The cost for access to their service was zero. Twitter and Facebook were the most radical in this regard. Anyone could create an account without verification of identity. 

They argued that this was the technological revolution that perfected the first amendment’s right to free speech. Their motive had less to do with the Bill of Rights and more to do with encouraging as many people as possible to express their views, track what they said, and sell access to advertisers based on what they said.

The Bill of Rights does guarantee free speech, but it did not anticipate the notion of total anonymity. Free speech assumes that the speaker is known, that what is said depends on who the speaker is and what the speaker has said in the past – that is, the character of the speaker. 

All that is impossible through these new media. One person can pretend to be 20 people by opening multiple accounts, and each can have their real identities hidden or claim someone else’s identity. The founders did not expect speech to be divorced from responsibility. Social media specializes in it.

Social media, like TV or newspapers, flourishes on readership. Social media allows its readers to provide the content that attracts readers for free. There is no cost for stating your views, no means to compel the speaker to identify himself and no consequence for slander, lying or mounting campaigns with malicious intent. 

From their point of view, absent political pressure, the more people that come, the higher the advertising revenue, and the more accounts opened, the greater the claim for membership. The intellectual and moral mayhem that results generates more activity, and that activity is what drives advertising sales.

The key moment in all this was when social media decided to follow a business model from the 1960s. TV was no cost to the viewer, and money was made by the ads that were sold. But with TV, the viewer did not control the content, and we were aware of who produced it. In the social media model, the reader is also the writer, and the cost of entry is zero.

Had a more modern approach been taken, everyone wanting an account would have to pay a fee, however modest, and provide a credit card. To some extent, it could be known who said what, and potential consequences would follow for slander or lies, if not legal then social. But social media’s strategy was so deeply rooted in old media that charging users was verboten. It would cut down on the audience being sold to advertisers.

To me, the fundamental problem of social media is anonymity. It is a place where anyone can say anything and walk away. It was an efficient plan that now meets antitrust laws. But that is not the core issue. The fact that there is both total anonymity and no cost encourages bad-faith actors to use that media and leaves the reader with no way to measure the credibility of the statement or the speaker. 

It creates equality between dissent and insanity. And there is no one we can shame for what is said unless a speaker volunteers his or her identity. And that segment who wishes to believe what is said can drive the discourse of others in uncontrolled rage.

An antitrust suit is based on the success of a business. The question here is liability, of creating a business that deliberately facilitates the right to speak without being responsible for what you said. Google uses its search engine, and the others use the platform for anonymous claims. 

The problem is not that they were successful but how they were successful: by selling access to others without being in any way responsible for what they say. That may be changing now, but the real answer is to charge users via a credit card. But that would hurt business.  

Is the Long-Awaited Constitutional Crisis at Hand?

Throughout US President Donald Trump's first term, there has been constant hand wringing over a "constitutional crisis" that never arrived. The irony is that an administration led by Joe Biden would almost certainly confront such a crisis, owing to Trump's transformation of the Supreme Court into a right-wing redoubt.

Eric Posner

CHICAGO – Since Donald Trump’s election in 2016, legal academics like me have been bombarded with emails from journalists asking whether the United States is undergoing or heading for a “constitutional crisis.” 

Most of these queries have been motivated by the president’s norm-busting, including his interference with Special Counsel Robert Mueller’s investigation of Russian interference in the election, his verbal attacks on journalists and judges, and his efforts to launch investigations against his political opponents.

A constitutional crisis, properly understood as a turning point that might lead to collapse or transformation of the system, has not occurred. But such a crisis does now appear increasingly likely. I am not talking about the election (though that could produce a constitutional crisis if the outcome is close, or in the unlikely event that Trump somehow refuses to leave office). 

Rather, I am referring to a crisis that could occur even if Trump loses. This crisis would arise from a tension that has existed throughout American history: namely, between the courts and a system of democracy that gives ultimate power to the people.

There have been two constitutional crises in American history. Both of them involved a clash between the Supreme Court and elected officials backed by popular opinion. The first began with the infamous case of Dred Scott v. Sandford in 1857. 

In that case, the Supreme Court held that African-Americans were not citizens of the United States, and that the 1820 Missouri Compromise – which had staved off civil war by providing a formula for dividing territory between slave and free states – was unconstitutional.

The Court’s ruling inflamed tensions between North and South, and contributed to the Civil War, in part by blocking a path to compromise. The ensuing constitutional crisis outlasted the war by more than a decade, as the Court continued to undermine legislation and constitutional amendments meant to protect freed slaves, and as Congress retaliated by stripping the Court of jurisdiction. 

The ultimate resolution confirmed the abolition of slavery and the union of the states, but preserved an apartheid system in the South.

The second crisis took place in the 1930s, when the Supreme Court struck down New Deal statutes meant to address the economic emergency of the Great Depression. In 1937, fresh from an overwhelming electoral victory, President Franklin D. Roosevelt proposed legislation to pack the court with pro-New Deal jurists. 

Though the bill was defeated, the Court backed down, reversing its opposition to economic regulation. Even after Roosevelt was able to fill vacancies and secure a sympathetic majority, the Court would remain gun shy for another 20 years.

Given today’s heightened political volatility, there is no knowing exactly what shape the next constitutional crisis will take; however, the broad contours are coming into view. As in the previous contests, the right has captured the Supreme Court, but lost the battle for public opinion. 

Since the 1980s, conservative rulings have increasingly constrained national economic regulations – echoing the once-discredited approach of the pre-1937 Court – and created an individual right to gun possession, strengthened religious rights, overturned restrictions on campaign financing, weakened protections for racial minorities, and eroded abortion rights.

On the left, unhappiness with the Court has been simmering since the 1980s, but two developments have brought the anger to a boil in recent years. First, the Affordable Care Act (Obamacare), the signature progressive accomplishment of the last 20 years, has been placed in grave danger. 

The law was barely upheld by the Supreme Court in 2012, and since then has been battered by a variety of legal challenges in the lower courts. If the Supreme Court issues still more adverse rulings against the ACA, the future not just of the ACA but of any ambitious progressive legislation will be in doubt.

Second, Democrats no longer trust Republicans to play by the rules with respect to judicial appointments, owing to the GOP’s turnabout on Supreme Court nominations. 

Having refused even to hold hearings for President Barack Obama’s Supreme Court nominee, Merrick Garland, in 2016, citing the approaching presidential election, the Senate’s Republican majority has now rushed through confirmation hearings for Trump’s nominee, Amy Coney Barrett, less than a month ahead of the next election. 

This bad faith, along with bad luck in the timing of Supreme Court vacancies, all but ensures that there will be a conservative Court majority capable of blocking Democratic legislation for at least the next four years – and probably much longer.

The combination of a right-wing Supreme Court and perceived Republican bad faith has emboldened Democrats to play their own form of hardball. Many on the left want Trump’s opponent, Joe Biden, to commit to “packing the court” if he is elected. That would mean increasing the number of seats – presumably from nine to 13 – so that four more justices can be appointed to create a 7-6 majority friendlier to a liberal agenda.

The significance of this proposal is hard to exaggerate. Roosevelt’s court-packing plan went down to a devastating defeat and caused lasting political damage to his presidency. Court-packing is a radical act, a favored tactic of despots. And the Supreme Court remains relatively popular among the public. 

Nonetheless, Biden, despite his moderate instincts, has not been able to distance himself from the idea, no doubt worried about blowback from the left wing of the Democratic Party.

But Biden’s problem is not with the left; it is, or will be, with the Court. After all, his campaign has increasingly focused on promising health care and a stronger response to the pandemic – two areas where conservative judges have shown great hostility. Thus, if Biden wins the election and obtains a majority in both houses – which he will need in order to implement any court-packing plan – he will face a dilemma. 

If he tries to pack the court, he runs the risk of losing the support of moderate Democrats, deepening political polarization, and damaging the Court’s standing in the eyes of the public. But if he does not, he may be rendered politically impotent.

Even Roosevelt was too embarrassed to call his bill a court-packing plan. Instead, he claimed that the aging judges throughout the federal judiciary needed to be supplemented by a younger cohort. 

Biden, nowhere near as popular as Roosevelt was, has no good options but to hope that the conservative justices on the court show good sense and moderate their hostility to popular legislation and government action.

Chief Justice John Roberts has hitherto demonstrated that this is possible. But with the addition of Barrett to the Court, Roberts could find himself in the minority. And if Barrett joins the other four hardline conservatives in overruling the will of a democratically elected government, the ensuing constitutional crisis could take years to resolve.

Eric Posner, a professor at the University of Chicago, is the author, most recently, of The Demagogue’s Playbook: The Battle for American Democracy from the Founders to Trump.