An Order Of Magnitude

There are those of us who believe that we can now see the way out of the financial crisis (see article). To be sure, there is a long way to go until the real economy fully digests the disturbances caused by the financial economy. However, the real economy could not begin to return to normality until the financial economy has returned to something like normality. As we move forward, the question arises of exactly how big the financial disturbance might be.

The recent stability report issued by the Bank of England (see report) suggests that the cost of the financial disturbance may add up to $2.8 trillion (see article in The Independent). Is this a big number?

The answer really depends upon what we are comparing it with. On the one hand, the cost of the crisis is about as big as the cost to the US of the war in Iraq. It represents about a quarter of the annual GDP of the US. On the other hand, the cost of the crisis is slightly larger thatn the annual GDP of China, which is not a small amount. Hamish McRae estimates that the cost of the crisis is about 7% of world GDP (see Blog), which is no small amount, but certainly looks manageable.

Once we start to compare like with like, the cost of the crisis is large enough to notice, but is also a long way from representing the beginnings of a new barter age. Perhaps we should all keep a sense of proportion to this?

The Icarus Effect

As part of a wider project, we have been reviewing recently the whole issue of the BRIC economies (Brazil, Russia, China, and India). The term BRIC was originally coined by Goldman Sachs in 2001. It was used to describe a group of nations whose development potential, if fully realised, would lead them to dominate the world economy by the year 2050. In the original formulation, to be included in the BRIC group a nation would have to experience growth in GDP of at least double that experienced by the OECD nations for a sustained period. The BRIC metaphor was quite powerful at the time. Seven years on, it is worth reviewing it to see if it remains useful.

The focus on the BRIC economies is a welcome reminder that there is a world outside of OECD. However, to focus solely upon the BRIC economies is to miss an important point. That point is what Fareed Zakaria calls the ‘Rise Of The Rest’. As an exercise if we were to make the entry criteria more stringent (growth in GDP of at least three times that of OECD), who would currently qualify for BRIC status? Conveniently, as members of OECD, Mexico, Turkey, and South Korea can be discounted. If they weren’t members of OECD, they would be BRICs. However, in addition to the four original BRICs, we might like to add Indonesia, Malaysia, Pakistan (at a push), Argentina, Venezuela, and Egypt. It would appear that there is more to the ‘BRIC Effect’ than is being experienced by the BRIC economies alone as the group of emerging nations has widened since 2001.

The development of the BRIC economies has coincided with an especially benign period of growth in the world economy. As we move into a period of weaker economic growth in the near future, the question arises of the resilience of the BRIC economies to a global downturn. The downturn is already evident in the financial markets. This year, the US stock market is down by 20.9% in dollar terms, the UK by 31.7%, the Euro area by 34.1%, and Japan by 21.4% (we like these comparative figures to be in dollar terms rather than local currency terms to capture the ‘flight to quality’). The equivalent figures for the BRIC nations are Brazil down by 28.3%, Russia down by 48.1%, India down by 45.6%, and China down by 63.7%. The BRIC financial systems have been hit harder than the OECD financial systems and one can only speculate whether, as the financial turbulence seeps into the real economy, the real economies of the BRIC nations will be affected disproportionately harder than the OECD economies.

If the BRIC economies are affected by a global economic downturn harder than the OECD economies, then the inherent flaws in each of the BRIC nations may well become more apparent. Brazil has a potential weakness in its currency. The Real now looks quite vulnerable – it fell by a fifth against the US Dollar last week. Russia is a petroeconomy that is one dimensional (energy) and vulnerable to falls in the price of energy. The Gini Coefficient in India actually rose during the years of globalisation induced rising prosperity. If that process is halted by recession, so will be the development of an Indian Middle Class. China, seemingly monolithic, may prove to be the least stable of all the BRIC nations. If growth falters in China, who will the Middle Class blame for the deterioration in their incomes and the loss of their savings? All of the BRIC nations contain elements of instability that call into question their future risk ratings.

And where does that leave us? We have a group of nations who have developed fast during a period of benign growth in the world economy. Our ‘trend blindness’ tempts us to believe that this can continue indefinitely, irrespective of global factors and the internal demographics of the BRIC nations. It has also led us to ignore ‘the rest’, who are also rising as the result of an increasing pace of globalisation. There are also a group of high income countries, such as Qatar, Saudi Arabia, Singapore, and Taiwan, who are not part of OECD, who do not have high GDP growth rates, but who do have a higher GDP per capita than the BRIC nations. We have also tended to lay aside the case against the BRIC nations in our pursuit of the case for them. As we move into a global downturn, that downside risk is likely to become more prominent. The BRIC nations have risen very high, very fast. They also have the potential to fall very far and very hard.

We call this the ‘Icarus Effect’, after the son of Daedalus, who escaped from Crete but fell to his death because he rose too far, too soon.

© The European Futures Observatory 2008

The Rise Of The Rest

'The Rise Of The Rest' is an issue to which we are liklely to return in the coming months. It forms the theme of Fareed Zakaria's book "The Post-American World", which is a very good read for those interested in how geopolitics are shifting.

As I was researching this issue (it forms a chapter of a book that I am working on), I came across this video on You Tube:

I found the video quite compelling, even if I am not sure about the theme. Take a look and tell me what you think.

Naked And PPP GDP.

As a follow up to a recent post on China and the US (see post), we have been asked about the GDP calculations that we used.

There were two real candidates for the numbers to be used. The first is simple aggregate GDP in dollar terms. We have assumed dollars at 2007 purchasing levels, but this is very much the Naked Dollar approach. The second candidate was to use a measure of Purchasing Power Parity. This is a measure that takes into account the monetary difference price differences between countries. In the end, we decided to use Naked 2007 Dollars in our calculations.

We did this for two reasons:

1. People spend real $ rather than PPP$ on the world stage. As we look further into the future, we would expect relative prices to harmonise, thus lessening the difference between the real $ and the PPP $ when applied to China and the US.

2. The PPP figures are too open to political manipulation and substantial revaluations. For example, late last year, China's GDP in PPP terms was revised downwards by 40% by the World Bank (see news story). This was caused by a change in the way in which the World Bank calculates relative prices rather than anything happening in the real economy.

It is our view that PPP values are really useful in cross sectional studies at a single point in time, but that values in real currencies are better in time series because they abstract away from the issue of changes in relative prices.

© The European Futures Observatory 2008

Why Worry About China?

I was reading a brochure for a futures conference this week when I came across an extraordinary statement. One of the presenters claimed that “China’s GDP could overtake America’s as early as 2015”. This stopped me in my tracks. The claim seems so wild that I just had to investigate the basis on which the statement might become true. It may be true that China’s economy is growing very fast, but it is growing from a very small base and that the US economy, relatively speaking, is huge. I thought that I would look into this prediction.

According to The Economist, in 2007 America’s GDP was $12.4 trillion whilst that of China was $2.2 trillion. This century, America’s GDP has been growing at an average rate of 4.5% per annum, whilst that of China has been growing at 12.9% per annum. If the US continues to grow at an average of 4.5% per annum, then China’s economy would have to grow by 28% per annum in order to reach parity by 2015. Equally, if China’s GDP continues to grow at 12.9% each year, then the US economy would have to shrink by 8% a year in order for parity to be reached by 2015. On this basis, we are more likely to be hit by an asteroid than China’s GDP overtaking that of the US by 2015.

This does beg the question of when, if at all, the GDP of China would overtake that of the US. It would depend upon the growth assumptions we make about the two economies. We put together a small econometric model to examine the implications of differing growth rates. For the US, we assumed growth of 0.0% pa (the zombie economy), 2.0% pa (the US achieves European growth rates), 4.5% pa (the US stays on track), and 6.0% pa (a miracle occurs). For China, we assumed growth rates of 4.5% pa (China achieves US growth rates), 8.0% pa (the expected rate after 2014 when the Chinese demographic time bomb explodes), 12.9% pa (China stays on track), and 15% pa (a miracle occurs).

Running the 16 pairs of possibilities (you could say the 16 scenarios), we obtained the following results:

The date in each of the cells is the point in time when Chinese GDP overtakes that of the US in our model. The results highlight two interesting points. First, when Goldman Sachs famously predicted that the GDP of China would overtake that of the US by 2025, their model was assuming average US growth rates of between 2.0% pa and 4.5% pa. More importantly, Chinese growth rates were assumed to average between 12.9% and 15.0% pa. This latter assumption seemed heroic at the time and seems even more so today.

The second point of interest is the amount of time that it would take for Chinese GDP to overtake that of the US if the US maintained or upped its game or if the Chinese game came off the boil. We are looking at a “not in my lifetime” series of results. This is not to say that we ought not to look at them, but it is to say that the contention of China overtaking the US does need to be treated with a high degree of scepticism. After all, who is to say that China, as a political entity, will last until 2040 or 2050?

Obviously the current downturn is going to affect the numbers that we used. There are also a number of additional flaws in the model. To start with, it is a linear model in a non-linear world. We also presumed a low degree of multi-collinearity. This is unlikely to be the case as both the US and the Chinese economies are highly interdependent. For example, this year, US GDP growth has fallen to zero (or less). As a consequence, China’s GDP growth has fallen to 10% (and falling, and subject to downward revision). However, even with a flawed model, we can see that the forecast of 2015 as the point where China’s GDP overtakes America’s GDP is nothing more than a wild dream.

If it is the case that China is unlikely to overtake America, then why do we worry about China?

© The European Futures Observatory 2008

Have your say. You can now have your say on this issue through the EUFO Prediction Centre. Just click on the widget below to go to the Centre. You need to be a member of Predictify to take part, but joining is free and easy to set up.

The Sound Of Schadenfreude

If you listen carefully along the eastern shores of the North Atlantic, you will hear the sound of crows-a-cawing. This is the sound of schadenfreude (the satisfaction or pleasure felt at someone's misfortune). For decades, European nations were berated by successive administrations in the US for not organising their affairs the way that America does. Indeed, it is often claimed that one of the causes of European indifference over the Iraq War was the way in which Secretary of State Albright swaggered around the European capitals during the Clinton administration, bragging about the superiority of the way in which the US organised its economy.

And now the boot is on the other foot. The US economy is heading for ruins and is having to adopt the European model in order to save itself. Indeed, The Times claims that the Bush Administration is set to follow the British example of taking some of the US banks into public ownership (see article). In a recent post, we asked if we are now seeing the end of 'capitalism' as we know it (see post). When a neo-con president adopts a socialist policy of public ownership, who could argue against the end of capitalism as we know it?

© The European Futures Observatory 2008

Who Owns Your Friends?

Who owns your friends? ‘Nobody’, we might be tempted to answer, but that would not tell the whole story. The advent of Web 2.0 has changed the landscape of friendship and is now starting to bring this issue into focus. An interesting case (Hays –vs- Ions) came across my desk recently and gave me cause for thought. It would appear that, under certain circumstances, your friends can belong to your boss.

The facts of the case are quite interesting. Mr Ions worked for Hays, a recruitment agency based in the UK. The essence of his job was to match suitably qualified candidates to situations as they fell vacant. Networking is a key skill in this area because the successful recruitment consultant has to maintain a continuous flow of good quality candidates with a flow of good quality vacancies. As part of the job, Mr Ions was encouraged by Hays to create an account on Linked-In (a public social networking site based in California) and to develop a network of contacts through the Linked-In account.

This Mr Ions did. He did so very well as it happens. So well that Mr Ions was able to leave Hays to start his own recruitment agency in direct competition to Hays. That is where the problems began. In his new business, Mr Ions used the network of contacts that he developed whilst working for Hays, using information obtained whilst working for Hays, which Hays claims to be confidential. Mr Ions counter-claimed that the information could hardly be confidential because posting it on the Linked-In site placed it in the public domain. Unfortunately, the courts found against Mr Ions (see law report).

This has two implications that speak to the future. First, we ought to note that the action, brought in an English Court for actions that wholly occurred in England resulted in an enforcement notice served and enforced in California. Whilst the web is global in scope, it is local in impact and it is important to consider the local implications of provision on the web. This is even more important now that social networking sites can be deemed to be accomplices to defamation (see law report).

Coming back to the original question, the second implication is that your boss might own your friends. Of course, we might want to redefine what we mean by ‘friends’. Friends, as in people you go to the pub with, are unlikely to be of much interest to your boss, unless, that is, you live the high life outside of work. Colleagues and work acquaintances are more likely to be of interest to your boss. However, as the relationship is between your ‘friends’ and yourself, this social capital is unlikely to be capable of being unlocked by your boss. ‘Friends’, defined as those who you come into contact with through your work life and with whom you have ‘linked-up’ on a social networking site, are more likely to be of interest to your boss. Prior to Web 2.0, we called these people our ‘business contacts’.

This problem of definition is likely to remain as long as we use social networking sites for both our social lives and our working lives. It would be nice to be able to divide the two, but this is hoping for too much. As the greater part of the financial value of modern companies lies in the relationships created by the staff of the companies, it is unlikely that the system will become less restrictive. After all, Hays pursued Mr Ions because they believed that he had taken something of value from them.

Perhaps this urges caution on us all? It may be that, when we change jobs, we might leave with our boss owning our social network account, and thus our ‘friends’.

© The European Futures Observatory 2008

Living Without Electricity

We recently wrote about the prospect of an electricity shortage in the UK from about 2012 onwards (see post). It now appears that we might have been a litle optimistic in our thinking. A recent article in The Independent On Sunday tells us that:

"The majority of the [nuclear] power stations are in dire trouble, and their failure is leading to the most acute concern in years that the country may run short of electricity this winter." (See article).

What are we to do? As a family, we have taken the view that energy shortages could well be a feature of our immediate future. We have installed an open-hearth fire so that we can keep warm in atleast one room. Actually, we installed it in the summer of 2007. With the way that gas prices have risen this year (up 50%), we expect the installation to pay for itself - from savings on our gas central heating - after the winter of 2009. As a precaution for the winter of 2008, we are also stocking up on candles.

Isn't that romantic? An open fire by candlelight, listening to a battery powered radio. This certainly brings some upside to a potentially dark future.

The sun rises as well as sets!

It has been one of those weeks where there is a sense that immense changes are afoot and that we are seeing a major turning point in history. I remember seeing the Berlin Wall falling late in 1989 and knowing that the world would be different from then on. Collectively, we have the same sense today. When the House of Representatives rejected the first bail-out plan, it just became evident that the United States had reached a central turning point in its history. What comes next is a matter of conjecture that futurists are currently debating. A more pressing question faced by a more general public is when are these horrible days going to end?

An interesting clue to the way out was placed before us last Tuesday. Circumstances forced me out of bed much earlier than could be called respectable. This gave me the chance to watch the afternoon trading in the Far East. On Monday, the US markets fell by 7%-8%. The Far East responded by falling by 4%-5% in morning trading. However, by lunch time, buyers entered the markets to leave the markets down only 2%-3% on the day. This wave of buying rolled across to Europe (FTSE 100 up 85 points on the day) and then on to America (the Dow up 485 points on the day). All in all, the losses were starting to be clawed back.

It is interesting to consider why this might be. Reports so far indicate that value investors (those who buy when good quality assets are priced at an unreasonably cheap level) were coming back to the market to snap up bargains. Indeed, Warren Buffet (the biggest value investor in the world) entered the market last week to buy $5 billion worth of equity in Goldman Sachs. As an example from the UK, the commercial bank Lloyds TSB was trading at a dividend yield of about 15% (i.e. three times the rate of retail deposit accounts) earlier in the week. If the bank’s balance sheet is as robust as it appears, if it can maintain an acceptable profitability, if it fares well in the downturn, and if it can maintain its dividend, then we can readily see why investors are considering the stock cheap and buying them.

This is all very promising. We are now seeing weak signals that indicate that the worst might be coming to an end in the financial markets. The prospects for the ‘real economy’ continue to be bleak for the next few months, and a lot of hardship has yet to be felt, but at least we can start to see a way out of the crisis. There is still scope for us to be blown off course. There is still the possibility of our political masters doing something silly, which will only prolong and deepen the downturn.

The probability of political mistakes in Europe is low and falling. Over the weekend, the UK authorities handled the collapse of Bradford and Bingley (a UK mortgage bank) and the European authorities acted decisively to shore up Fortis (a commercial bank with extensive interests in the Benelux countries and France). The monetary authorities in Europe are starting to appear to be up to the job of handling the crisis. Christine Lagarde (the French Finance Minister – France currently presides over the EU) looks particularly masterful. Even Gordon Brown has started to look as if he knows what he is doing! This appearance has substance; a model has now developed to allow the monetary authorities to manage the crisis.

The same cannot be said across the Atlantic. The House of Representatives voted against the first Bush Plan, the Senate has voted for the second Bush Plan. Perhaps this reflects that the Representatives are closer to main street USA, whilst the Senate are closer to the international partners of the US? This story still has some way to run, but one thing is clear – the credibility of the US Government as an international partner has been damaged. If the US is perceived as an unreliable partner, then it will have to pay a risk premium in future dealings. And this really brings us back to where we started – the long term impact of this crisis.

At present, the jury remains deadlocked. Events suggest that the current downturn could be of a temporary nature. It could be that the long decline over the past ten years could be reversed and the fortunes of the US improve. However, it is also possible that the US is locked in a long term decline and that the current crisis is just one more milestone on the downward path. What is becoming evident is that the weaknesses and flaws in the American system of government are increasing the likelihood of long term permanent decline. When nations across the world are seeing politicians pulling together in acts of national unity, the US still retains its partisan politics. If this hypothesis is correct, then the House of Representatives rejecting the first bail-out plan would mean that the United States had reached a central turning point in its history.

It is up to the politicians to choose whether to experience the sun rising or setting.

© The European Futures Observatory 2008

Thinking aloud - a glimpse of the future.

Every now and then something happens that brings the future clearly into focus. Perhaps it is because a variety of connections have been motoring around our sub-conscious or perhaps it is because we find that we have a bit of time and space to clear our minds from our immediate concerns. Whatever the causes, the effect is that we suddenly can see one path into the future with a great degree of clarity. This clarity of vision is what I like to call foresight.

My wife has been in Ireland this weekend and her trip has given me a number of reference points into the future. The journey started by catching a bus from Ipswich to Stansted Airport. Normally I would have driven my wife to the airport – and again to collect her on the way back – but a new bus service has called all of that into question. The new shuttle service (a bus every 2 hours, 24 hours a day, 7 days a week) is priced to dominate this service. At £23 return ($US44, €28), the journey costs less than the petrol cost of driving to the airport. For multiple passengers, four people would travel on the bus service for less than the cost of a taxi. This says something about the future to me. In a future where the cost of resources is appreciably higher than today, I see the price mechanism forcing people to abandon resource inefficient methods (the car) and adopting more efficient collective forms of transport (the bus or the train). That the bus in this case was a low-carbon bus is something of a bonus in terms of carbon footprint.

My wife flew by Ryanair to the west coast of Ireland. The flights cost £1.98 return ($US3.50, €2.30), but with £50 ($US95, €60) added to cover taxes and luggage. One wonders how long this will last. In a world where the price of aviation fuel keeps rising, the business model of the low cost operators must be coming under considerable pressure. The latest results update shows that, for the quarter to 30th June 2008, Ryanair profits had fallen by 85% compared to the same quarter of the previous year. The impact of high oil prices ($US130 a barrel for the quarter to 30th June 2008) is obviously having an effect. The second and third order effects upon the destination areas – such as the west coast of Ireland – would make a really good subject of a scenario exercise. If the low cost airline business model were to fail, what would be the impact on regional development in Europe?

My wife, joined at the airport by her sister, boarded the plane on time, but then spent two hours on the runway. The air traffic control computer for Southern England had failed and the whole air traffic system was seriously degraded. It seems to me that we are currently in a world characterised by high levels of complexity and interdependency. When large and complex systems are designed, I wonder how much tolerance for failure is built into the system. In many of the futuristic techno-fantasies, it is taken for read that there will be sufficient power to operate the system, that its supply will be uninterrupted, and that the system will actually work. Most of us know these assumptions to be heroic. The UK faces the prospect of brown-outs from 2012 onwards (electricity demand is likely outstrip electricity supply from that year onwards) and large scale IT projects are notorious for being delivered late, over-budget, and not fully functional. I wonder how long it will be before we take a step back from complex solutions to a more simple approach to problem solving.

If that were to happen, we may well find the world to be a bit more resilient to disturbances, but then, my wife and her sister wouldn’t be able to pop over to Ireland for a weekend family visit. I guess that we can’t have our cake and eat it!

© The European Futures Observatory 2008

Oops, there goes the planet!

September 23rd this year has the dubious distinction of being Earth Over-Shoot Day. The idea of Earth Over-Shoot is a bit complicated, but one worth getting to grips with. The basic idea is that there are finite resources on the planet. Our rate of consumption is then measured against our ability to replenish those resources, to come up with a figure of how many planets we are presently consuming. At present, we are consuming 1.4 planet Earths each year. At our present consumption rates, we are currently using 140% of the resources the Earth can generate in a year, which means that our lifestyles become unsustainable on September 24th this year. What might this mean in the longer term?

We need to recognise that Earth Over-Shoot Day is getting earlier each year and at a faster rate (see web site). In 1986, Earth Over-Shoot Day was December 31st. By 1995 it had moved to November 21st; and by 2005 it had moved to October 2nd. Over-Shoot is also unevenly distributed. According to the National Footprint Accounts, the US currently consumes 5.4 Earths, the UK 3.1 Earths, Germany 2.5 Earths, and India 0.4 Earths. The big uncertainty facing the world is the sustainability of the RIPE (Rapidly Industrialising Poor Economy) nations.

For example, if India were to want to enjoy a standard of living comparable with that of, say, Argentina – which is currently consuming 1.2 Earths – then the resource footprint of India would have to increase by a factor of three. One can question whether the finite resources on the planet contain this amount of reserves. Alternatively, suppose that the middle class in China grows in numbers more or less as forecast. We calculate that, if the Chinese middle class in 2020 wants to enjoy the living standards that are currently enjoyed in Europe and North America, then we need to find nine more planets to supply the resources to provide that lifestyle.

In conjuring up this fantasy we need to keep our feet on the ground. It is only a fantasy. Well before the fantasy could take hold, mechanisms within the system of the global economy will move into action to limit the degree of the scarcity faced. We have seen an example of the mechanism at work this year in the energy markets. In an excellent lecture on Sustainable Economics at Gresham College, Professor Michael Mainelli informed us that the price of petrol (gas) in the US had risen by 32% between 2007 and 2008, and that there has been a consequent reduction in miles driven of 4.7% (see lecture). Our own research has shown that, in the same period, usage of light rail transportation in the US increased by 10.3%, commuter rail by 5.7%, long distance rail by 4.4%, and bus usage by 2.2%. People have been getting out of the car and onto the train.

In many ways, this provides a glimpse of how we can see our economic future unfolding over the next two or three decades. Faced with acute shortages, global markets are likely to respond with relatively high price rises, which, in turn, has two effects. On the demand side, there is a substitution from individual consumption to collective consumption in order to enjoy increasing marginal returns of scale. And on the supply side, there is a financial incentive to invest in technologies that allow us to derive more from less. It is quite possible that resource efficiency may become the next hot technology wave.

As Willian Gibson is alleged to have said, ‘the future is here already, it’s just unevenly distributed’.

© The European Futures Observatory 2008

The War Is Over (Or Is It?)

Traditionally the summer is a good time to bury bad news. This summer has provided extremely good cover for bad news. In the US, the news has been dominated by the Presidential Election. In Europe, the news has been dominated by a resurgent Russia in the Caucasus. In the UK, the news has been dominated by the Prime Minister’s inability to get anything right. Under the cover of this smokescreen, the US Department of Defense has, very quietly, declared the ‘War on Terror’ to be over.

Buried in an obscure American Forces Press Release from the Department of Defense (see Press Release) is a reference to the new National Defense Strategy (which can be accessed through the Press Release). In this new strategy, we are told on Page 7 that the War on Terror has been replaced by ‘Winning the Long War against violent extremist movements’ as “the central objective of the US”. From a futures perspective, this raises a number of interesting points.

First and foremost, it indicates that the American unipolar moment is coming to an end, if it hasn’t ended already, especially when, on Page 8, we are told that the US must act “in concert with others”. Unilateralism is at the core of the Bush Doctrine. Furthermore, we are told that “we face a clash of arms, a war of ideas, and an assistance effort that will require patience and innovation”. It is interesting that the undue reliance purely upon force – again central to the Bush Doctrine – is to be supplemented with the use of soft power as a means to achieve the US national interests in the future.

Eventually, we can expect that war fighting will be left to soldiers and law enforcement will be left to the police. There are many in the world who would welcome this. It seems to us that the legal tangle that the US faces over Guantanamo Bay derives from an inappropriate mixing of these roles. The military are poorly equipped to supervise the effective running of law enforcement (running trials and operating prisons). Police operations rely upon the intelligence gathering and interdiction capabilities of the military. In an ideal world – which is one that we can create in the future – the two organs of government would complement each other.

In many ways, the National Defense Strategy represents a significant departure in US policy towards the rest of the world. If it does mean that the ‘War on Terror’ is over, then we are left wondering who might have won the war. It would be hard to argue that President Bush and the Neo-Cons have come even close to winning the war. Their policy in this area – at best a shambles, at worst criminality beyond comprehension – is in tatters and very unlikely to survive to February 2009. It is ironic that the Bush Doctrine has not outlasted the Presidency after which it was named.

Al Qaeda might claim to have won the War on Terror. They could point to regime change in Washington as their success. This, however, might stretch the point too far. It conveniently ignores the inability of Al Qaeda to operate effectively in the Post 9-11 environment. According to the FBI, the number of deaths in the US from terrorist incidents has fallen to zero. This reflects the success of the law enforcement agencies across the world in containing Al Qaeda and in diminishing its ability to operate.

In many respects, there is a lot to be said for the view that nobody has won the war on terror. We have all been losers in some way. In Europe and North America, the trade off between personal liberty and collective security has shifted decisively towards lesser personal liberty. This loss of liberty has become more intrusive in recent years, particularly when some law enforcement agencies are unable to resist the abuse of their additional powers. Surely this has to be one of the greatest losses because it affects us all.

The National Defense Strategy may prove to be an important realignment in US military policy. It represents a more realistic – even more pragmatic – approach to the security issues facing the US and the world in the future. We may yet see a return to the position where soldiers fight, police arrest, and judges imprison. If so, then we will be better equipped to deal with the issues of global criminality, of which global terror is part.

Perhaps that is a future worth building?

© The European Futures Observatory 2008

Freddie, Fanny, and the end of Capitalism (as we know it!)

It is often said that the 1980s was a decade that demonstrated that Soviet style Communism was unworkable. The decade culminated with the fall of the Berlin Wall and the collapse of the Soviet Union itself. This was followed in the 1990s by a decade that showed that Russian style Capitalism could not work also. The financial repercussions of the Russian Default in 1998 and the subsequent LTCM crisis placed great strains on the international financial system. The 1990s was followed by the current decade where large financial imbalances have developed within the world economy. These have now resulted in the nationalisation of Freddie Mac and Fannie Mae, who together underwrite 80% of US residential mortgages. What are the long term consequences of this?

Looking at the short term first, the action has been undertaken to restore confidence in the US financial system – particularly regarding domestic residential financing. The cost to the US taxpayer of this intervention is subject to much debate, depending upon the assumptions made about how badly the situation may develop. The estimates range from $300 billion to $1.6 trillion. To put this into perspective, it would equate to between 10% and 50% of the long term cost of the war in Iraq, but it is a bill which has a much shorter timescale for payment. It is not unreasonable to believe that, whoever wins the election in November, their ability to act as President will be seriously circumscribed by financial constraints handed to them by the outgoing Administration. The pessimists might say that the new Administration will almost be doomed to failure.

Although the intervention may cost the US taxpayer between $300 billion and $1.6 trillion, the Federal Government doesn’t actually have the money to pay this bill. The Federal deficit is currently heading towards $500 billion a year and the national debt is growing significantly. Who, we might ask, is going to finance the intervention? In recent years, we might have answered that the East Asian central banks - swelled by trade surpluses - and the Petro economies - swelled by rising energy prices – would provide the cash. However, the East Asian – particularly Chinese – trade surpluses are not as great as they once were. Additionally, energy prices have come off the boil somewhat this year. All of this will act to limit the ability of the Federal authorities to raise finance. It is not unreasonable to suspect that US interest rates, in the medium term, might be a lot higher than they otherwise would have been without the intervention.

If so, then more of America will be purchased by the rest of the world. This is a long term trend that may come to dominate domestic politics within the US. It is one of the mechanisms by which other international players – particularly those in East Asia, Europe, and Russia – will raise their international standing. From our perspective, we see this as a hint that the US unipolar moment is coming to an end. The ‘rise of the rest’, as Fareed Zakaria calls it, is becoming evident through the purchase of T-Bills. By making the Federal government susceptible to potential shifts in confidence, another constraint is placed upon the US President to act within the international arena. The US president currently does not need to seek the approval of Moscow or Beijing before acting, but events are moving in that direction.

The Federal authorities intervened in the markets in order to shore up the US (and global) financial system. They needed to do this in order to rectify what economists call ‘market failure’. Market failure arises when freely operating markets generate a sub-optimal and stable equilibrium. This happened in the 1920s, when the world returned to gold at pre-1914 exchange rates. That policy mistake led to a recession that lasted a generation. At the time, the whole future of Capitalism, as an institution, was called into question. We are in a parallel position today. In the 1930s, Keynes came to rescue Capitalism through the development of state intervention – Social Welfarism as we know it today. In recent decades, this Keynesian legacy has been attacked by those who we now call the Neo-Cons, who have developed an aggressive brand of American Capitalism.

American Capitalism has been offered as a solution around the world since the 1960s, but hasn’t gained much traction for one simple reason – it doesn’t work. It does not offer any solution for those market failures that arise on a regular basis. It certainly offers no hope for the largest market failure facing humanity today – that of Climate Change. We now see, through the nationalisation of Freddie Mac and Fannie Mae, an admission from the US Federal government that American Capitalism does not work. We ought not to celebrate too much just yet. The Keynesians came to the rescue in the 1930s and 1940s, but there is no parallel school of thought today. Perhaps necessity will generate it? Perhaps it is time for China, or India, to take the intellectual lead?

It seems ironic, almost comedic, that President Bush, the archetypal Neo-Con President, has come to cause the destruction of that which he cherishes most – American Capitalism. They say that the Gods first send mad those who they wish to destroy!

© The European Futures Observatory 2008
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A tribute to Pausanias

Why is it that the ancient Greeks, despite a multitude of competing city-states, only had one truly destructive war? Many scholars have considered this question over the years and the conclusion usually points to a uniquely Greek non-martial way of expressing inter-state conflict – the Olympic Games. Sport, as a metaphor for inter-state conflict, has entered into the modern Olympic Games. Starting with the Berlin games of 1936, and continuing throughout the Cold War, the medal count, as an expression of international power, has been used by propagandists and apologists to show how great their nation or system of government is in relation to all other nations and systems of government. Just suppose that this is true. What does it tell us about the Beijing Games?

It is usual to order the medal table according to the number of Gold Medals a nation has won. On this basis, with 51G, China led the medal table (the US was second with 36G, Russia third with 23G, and Great Britain fourth with 19G). China, however, didn’t win the most medals. With 100 medals (51G, 21S, 28B), China came second to the US in the number of medals won. The US won 110 medals (36G, 38S, 36B). It has been interesting this week to watch how the various pundits have presented these facts.

Those who take a hostile stance towards the US highlight that America has been displaced at the top of the medal table by China. This has been interpreted as a corollary to the rise of China to displace the US as the leading economic force in the world. Equally, those favourable to the US have pointed out that the US won the most medals at Beijing – an indication that America is “still number 1”. Numerically, both camps are right. They are simply using the numbers to advocate their political perspective.

As an exercise, we added the medal awards of the 27 European Union member states to see what we come up with. In total, the EU nations won 275 medals (87G, 101S, 87B). Of course, this exercise is not strictly additive, but it does point to a theme that the Europhiles are keen to highlight. If the EU were to act in a coherent and co-ordinated manner, it would dominate the medal table (and, by extension, the world!). This point does have some merit, if not pressed too hard. The EU is something of an under-stated power that may well come into the light by the time that the Olympic Games reach London in 2012.

In reviewing the whole debate, I was much impressed by an excellent piece by John Mahaffie (see piece), who reminds us that a rock becomes a bear if we are looking for bear, and a bear becomes a rock if we don’t want to see a bear. We can all use the same set of numbers to demonstrate different points according to our subjective interpretation of those numbers. In futures work, one might ask how there can be consensus about the future if we can’t agree what has happened in the past. And that is the whole point of futuring. We are describing a world that has yet to happen. We can all be both right and wrong simultaneously.

A point that is almost Grecian in subtlety. Had the Ancient Greeks discovered futurism, they may well have made it a god. I wonder how Pausanias would have described it.

© The European Futures Observatory 2008

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Let 'em starve!

August is always a slow news month. The key decision makers are generally on holiday, activity falls away, and not a lot happens. Newspapers, however, still have to sell copy. This has given rise to the ‘silly season’, where stories that ordinarily wouldn’t merit too much thought are given a prominence that they possibly do not deserve. One such story this August concerned a rant by Prince Charles (the heir to the British throne) over GM foods (see article). The Prince suggests that the cultivation of GM foods is a gigantic experiment with nature that has gone “seriously wrong”. He also suggests that relying upon “gigantic corporations” for our food would result in an “absolute disaster”.

From a futures perspective, this claim is worth examining. The cultivation of GM crops has been going on for 10 years now, and there is little evidence to suggest that there are any unduly harmful effects from this method of cultivation. The practice has been occurring long enough for any detrimental side effects to have become evident. We currently consume the produce from GM cultivation in three ways. First, there are the GM crops grown abroad that are imported into the UK. Second, there are the processed foodstuffs that are manufactured outside of the UK and then imported as finished products. And finally, there is the livestock feed that is processed with GM crops, that then enters our food chain through the meat that we eat. In this respect, the genie is already out of the bottle.

The Prince offers no evidence to support his claim. Equally, there is no evidence to suggest that the means of making a market for foods (the “gigantic corporations”) is either superior or inferior to any other form of market organisation. We can suspect that a global trade in food actually needs global corporations to move the food from the producer to the consumer.

On the other side of the coin, there is much to suggest that GM cultivation has been beneficial. GM cultivation is a way to improve crop yields and to cultivate crops more efficiently with regards to the environment. This year, we have seen the start of what we feel is likely to be persistent food shortages across the world. As prosperity wraps itself around the globe, as living standards rise, as people rise out of poverty, they are likely to want to eat more of a better diet. If the growth of the supply of food cannot match the growth in demand for food, global food prices are likely to rise – as they have this year. GM cultivation offers a technological solution for the growth in the supply of food to match the growth in demand for food.

Food crops, of course, are also resource intensive. One particular resource that is vital to crop growth, that is starting to register as scarce across the globe, is water. Water is a vital input to the growing process, and there are very few cash crops that can be cultivated successfully without it. An impending shortage of water raises the prospect of declining crop yields. Once again, GM cultivation offers the hope of a solution for this problem, as crop strains that need less water for successful commercial cultivation can be engineered.

If the Prince were to have his way, what would be the implications? We could expect a world in which there is less food than there is now as the GM crops currently in cultivation are replaced by lower yielding crops. We could expect the price of food generally to be more expensive than it is now. However, worse of all, we could expect the incidence of hunger and starvation to be greater than it is now. The cause of poverty eradication in the world would be set back much further than it is now.

I don’t know if Prince Charles is related to Marie Antoinette, but this sounds awfully close to exhorting the developing world to eat cake!

© The European Futures Observatory 2008

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St George, the Bear, and the Eagle

How does the present impact upon the future? One way is for us to interpret current events through a prism created by our view of how the future will unfold. We all have an implicit model of the future that governs how we interpret events as they occur. Every now and then, a major event happens that gives us an opportunity to re-evaluate our mental model of the future to question whether or not it remains a reasonable explanation of how we see the future unfolding. For those interested in geopolitics, the Russian incursion into Georgia this summer gives us an opportunity to consider the validity of our models of the future.

Events this summer, in our view, have lent support to this view of the future. Encouraged by the US, a number of EU nations, and NATO, the Georgian army entered South Ossetia to assert the authority of the Georgian government over a dissident region. Russia interpreted this as the ethnic cleansing of Russian citizens residing in South Ossetia and deployed its troops in South Ossetia (thus invading a sovereign neighbour) to guarantee the security of Russian citizens residing in South Ossetia.

Military halt lines don’t follow administrative boundaries, and the Russian incursion halted beyond the South Ossetian border. In the meantime, the Georgian separatists in Abkhazia had received direct military support from Russia in their aspirations to break away from Georgia. Eventually, a ceasefire, brokered by France as the presidency of the EU, has been agreed. Russia has agreed that its troops will withdraw from Georgia at some point in the future and NATO – at the prompting of the US - has announced that ‘there can be no return to business as usual’ (whatever that might mean). The incident still has some way to run, but the basic pattern of events at the grand strategic level is now in place.

We have an article in print entitled ‘The Second Cold War’ (see article) in which we argue that one possible future that matches a resurgent Russia with a US in relative geopolitical decline could lead to a confrontation where the US is unlikely to emerge victorious. In accepting this confrontation, the US could accelerate the process of geopolitical decline. In our work leading to this scenario, we identified a number of potential flashpoints around the world (we call them ‘Geopolitical Hotspots’), one of which is the Caspian Basin.

We modelled the Caspian Basin Hotspot extensively last year - it has a volatile mixture of Russia; Iran; Turkey; the ‘Stans’; Chinese, EU and US oil and gas interests; the world’s largest growing area for opium poppies; militant Islamic interests; and post-Soviet resentments. Events this summer have tended to confirm the Caspian Basin as an area to watch for future conflict. In our models, a resurgent Russia – financed by rising oil and gas revenues – tended to be the more dominant power in the region.

In the model, the US, as the only global super-power, would want to adopt a more proactive role, but lacks the means to do so. The war in Iraq has overstretched the US military capacity, has indebted the Federal Government at just the wrong time, and has exhausted its diplomatic credit. The US, through NATO, could rally the EU nations on the diplomatic front, but a more aggressive military response from European NATO nations would be beyond their remit. The EU nations might consider deploying a peace-keeping force, but the experience of Lebanon in 2006 suggests that this might take some time to organise.

So far, we are encouraged by our model. However, it does have two key critical uncertainties that need to be questioned. First, will we see the continued resurgence of Russia? In many respects, the answer to this question depends upon how tight the energy markets remain. In our scenario, we assumed that we are close to Peak Oil and that Russia could presume high proceeds from energy sales. If energy markets were to soften, then perhaps Russia wouldn’t be so resurgent?

The second critical uncertainty asks if we are actually witnessing the relative decline of the US geopolitically. US influence has waned in recent years, but is this a permanent decline or a temporary undulation? Just suppose that the US Presidential elections in 2008 lead to an outstanding candidate entering the White House. Could the decline of the US in recent years be reversed? We think that it could, if the right candidate were to emerge from the political process in the US. However, whilst this is a possible event, given the current leading candidates and given the state of politics in the US, we feel it to be a highly unlikely event.

This, in a roundabout way, brings us back to Georgia. If the US is unable to assist Georgia, and if the EU nations are unwilling to put themselves out to help Georgia, what is Russia likely to do? NATO has called for Russian troops to be withdrawn to their positions of 6th August (i.e. to vacate Georgia and South Ossetia). Russia has stated that it will withdraw its troops, except for 500 ‘peacekeeping troops’ to be stationed in South Ossetia. The question of Abkhazia still remains in abeyance.

Whatever happens, Georgia, as a sovereign entity, has been destabilised, making the Caspian Basin an even hotter Hotspot. The biggest loser this summer has been the Georgian President, Mikhail Saakashvili, who seriously underestimated Russian resolve and seriously overestimated the willingness of the US and Europe to support his policies.

One wonders if the Russian presence in Georgia is now permanent and whether Mikhail Saakashvili will continue as the President of Georgia.

© The European Futures Observatory 2008

Inflationary Expectations

Just over a year ago we wrote about the possibility of a long term social backlash away from fame and celebrity (see article). A couple of events this week have caused us to revisit and update our thinking. The week started with a strike amongst drivers of fuel tankers, who take petrol from wholesale storage to the retail outlets. All in all, about 10% of the UK petrol retail outlets were affected, with a disproportionately high number of Shell service stations being affected. Just as the first wave of the strike had come to an end, the dispute was ended with a 14% settlement (see article).

At the same time, it was Royal Ascot this week. For our overseas readers, this is a bit more than a Racing Meeting – it is one of the key social events in the UK of the year. If you ever have the chance to attend the Royal Enclosure, then you will have to adhere to the strict dress code of the event (see article). In modern times, Royal Ascot has become synonymous with an excessive and ostentatious display of wealth. Indeed, some commentators see it as a parade of the “rich and pointless”. For those who would like to see what I mean, a set of photos can be followed from here.

It is interesting to put these two stories together in a future context. The justification of the fuel tanker drivers for a settlement that is four to five times the rate of inflation was that, as the price of oil has been rising, oil company profits has been rising too, along with managerial salaries and directors bonuses. They felt that they were justified in sharing that bonanza because it was ‘fair’. Equally, despite being told that the economy faces great difficulties at the moment, we also see a display of wealth at Ascot that indicates that some people aren’t short of money.

It then becomes particularly difficult to urge wage restraint when not everyone is seen to be accepting their fair share (see story). In many ways, the current situation is similar to the position we were in just before the great inflation of the 1970s. During the 1960s, middle class disposable incomes had risen sharply in England. This rising prosperity had not been shared widely, creating a view amongst the working class that they had not received their fair share of the increasing prosperity. A fairer share could be gained through collective action to secure higher wage demands.

Of course, employers, when meeting those demands, simply passed on the increased costs to their customers, who then used these rising prices as a justification for their higher wage demands, and so the wage-price inflation spiral gained momentum. This expectation of ever higher wage settlements is what we now know as inflationary expectations. The inflationary expectations of the 1970s were halted in the 1980s through the intervention of the Thatcher Government at great social and economic cost to the UK.

One might fear that if we are right that inflationary expectations are starting to rise again, a future period of social dislocation will come about. There is time to forestall this by defusing those expectations, but not by exhortation from the Governor of the Bank of England or the Chancellor of the Exchequer. What is needed is a period of leadership, particularly from the private sector. There needs to be examples of restraint on pay provided by company bosses. So far, these have not been too forthcoming.

If our leaders don’t take their own advice, then why should the ordinary people? If ordinary people don’t take this advice, how can we avoid another bout of inflation?

© The European Futures Observatory 2008

We are presenting a paper on how a futurist can add value to the work of econometricians at the Professional Members Forum of the World Future Society in Washington in July this year. Click here for more details of the event.

GM in the EU

Some time ago, we wrote about the resistance in the EU to GM food (see article). We took the view that, if Europe was to avoid permanently high food prices, this policy may need to be reviewed.

We also wrote subsequently about how 2008 was turning out to be the Year of Hunger (see article). In this piece, we took the view that the key to rapid increases in crop yields at a global level would be the development of GM technology.

In an article this week, The Independent reports that the EU is now being urged by some member states (see article) to adopt some GM foods as a way of icreasing the global food supply. This is all to the good.

What is not acknowledged is that there is generally a 15 year lag between starting a project and the impact on crop yields being felt. It would be interesting to consider how that lag will be filled while we await the technologies.

Dude, Where's My Internet?

Is it just me, or is the Internet slowing down? For some time, I have found my connection to be clunky and slow. Files wouldn't zip across as fast as they have in the recent past, it would take ages to load pictures, and so on. Mind you, our broadband access is still so much faster than the old dial-up system.

I put this down to the natural slowdown that occcurs when you have had a laptop for a while - it is now becoming stuffed full of files. However, this might not be the only reason. A recent article by the BBC does suggest that the Internet is slowing down (see article). The main cause of this is the BBC i-Player. This web based device allows us all to watch BBC programmes that we have missed up to a week after their showing. Apparently, people are arriving at work and then dowloading last nights viewing, which is slowing Internet speeds considerably. The ISPs blame the BBC (and want it to invest in network upgrades). The BBC reminds the ISPs that this is their commercial activity.

This raises the issue of who owns the Internet. At present, the cosy relationship that has existed since the 1960s has not been called into question. The matter is likely to come to a head soon if another BBC report is correct and that the Internet will run short of bandwidth in 2010 (see article). It would not be unreasonable to expect those who own the infrastructure of the Internet to pay for investing in new bandwidth. Equally, those who do pay for the investments may want more say than they currently have.

Let us hope that the question of who owns the Internet and who has to pay for the investment upgrades is resolved with as little disruption to the end user as possible. If not, the ICT backbone of globalisation may grind to a halt.

How about that as a Wild Card Scenario?

Bucking The Trend

There is an interesting article in the current issue of Foreign Policy about what the author calls the ‘Euroinvasion’ (see article). It would appear that European companies are taking advantage of the current strength of the Euro against the US Dollar and are buying US companies. The example cited is that a US company priced at $500mn would have cost €430mn in 2003. In 2008, the price tag would have fallen to €316mn for that $500mn company. Cross border mergers and acquisitions are not new, and are the inevitable consequence of the process of globalisation. However, what is significant is the strength of the trend. It might indicate something more substantial than the ebbs and flows of currency movements.

Our attention was recently drawn to the Global Financial Centres Index (see report). In this, London rated higher than New York as the leading financial centre in the world. The report does come with a health warning – it was produced by the City of London, which is bound to highlight its strengths in the weights within the index, and part of the result can be explained by the strength of Sterling against the US Dollar. However, despite this, there is also something there. London has become a centre for the recycling of Middle Eastern and Russian petro-surpluses. It is seen as having a lower political risk than New York, and the city has developed as a residential centre for super-wealthy individuals.

These two conclusions fly in the face of the current conventional wisdom that the centre of gravity in the global economy is shifting towards Asia. Whilst it cannot be argued that Asia has come to dominate manufacturing on the global stage, it is more instructive to consider how that wealth has been stored. The key Asian economies – Japan, South Korea, and China – have tended to store their surpluses in the form of US Government debt. This provides us with an important part of the jigsaw puzzle.

How do Empires decline? In the case of the British Empire, the long term depreciation of Sterling allowed other nations – principally the US – to buy the assets of the Empire. If this model is valid (long term currency depreciation allowing the purchase of domestic assets by overseas entities), then we can see it in practice today with regards to the US. If it is true that European companies are purchasing the US corporate sector, that Asian Governments are funding the US public sector, and if European centres have displaced US financial centres as financial powerhouses, then we have a clear view of how the long term decline of the US might occur.

Of course, the future is not certain and the US could reverse this trend. However, experience to date suggests that it may not do so. A key element in reversing the trend would be to embrace open market capitalism. Sadly, the parochial pork belly politics of the US is taking it in the direction of the protectionist agenda of the neo-nationalists. It is ironic that the champion of market capitalism is unable to follow that particular ideology. In our model, this will be the eventual undoing of the US.

In our thinking, as Europe is now engaging in the sort of market capitalism advocated by the US, it is faring well compared to the US. This could be the basis for a renewal of the European economy. If it is, then we are bucking the trend of conventional wisdom by suggesting that the future may not be Asian. It may be European.

© The European Futures Observatory 2008

We are presenting a paper on how a futurist can add value to the work of econometricians at the Professional Members Forum of the World Future Society in Washington in July this year. Click here for more details of the event.

When The Lights Went Out

Last week the Internet stopped working for us. My thoughts were that I must have pressed a wrong button or that my laptop was malfunctioning. I don't know why, but whenever something technical goes wrong I just assume responsibility. How wrong I was!

The cause of the Internet not working - for us, it was working for everyone else - was a major power cut in the UK National Grid. The BBC reported the story (see story), but there is so much in there that talks to the future. Apparently, a computer malfunction in the Sizewell B nuclear reactor led to an immediate shut down of power on safety grounds. This deprived the National Grid of 3% of its power needs.

The Sizewell shutdown happened to coincide with the Longannet power station going offline and seven other power stations being closed for routine maintenance. All of this combined to result in supply falling short of demand and power cuts - unplanned and unscheduled power cuts - across London, East Anglia, Cheshire and Merseyside.

The server for our ISP happens to be located in this area. One minute the Internet (web and e-mail) was functioning normally. The next minute someone turned the switch off. There is a future lesson to be learned here. As the economy becomes more interdependent, both locally and globally, our dependence upon these communications is likely to grow. However, this chain of complexity is only as good as the weakest link - in this case the power supply.

If these forecasts are right,

we shall have to become more used to the interrupted supply of electricity, with all of the consequences for IT and our use of global networks. Our growing complexity is leading us towards a world of greater vulnerabilities.

The US Taxpayer & Afghanistan

An interesting thought occurred to me recently. The US taxpayer is funding both sides in the conflict in Afghanistan.

On the one hand, the US is providing about half of the NATO intervention force in Afghanistan, as well as underwriting the cost of the reconstruction. This involves the direct use of US Tax Dollars.

On the other hand, following on from the post on Oil (Again!) - see post - it would appear that a good percentage of the tax rebate given to the US taxpayers (US Tax Dollars, again) will be used to cover the increased cost of petrol at the pumps in the US. This revenue flows to the oil companies, who buy oil from, say, Middle Eastern sources. Part of the Middle Eastern oil revenues are used to fund Islamic education, some of which are Madrassas in Pakistan. In some of the Madrassas in Pakistan the youths are radicalised and recruited for the Taliban, who then travel to Afghanistan to fight the US troops, courtesy of the US taxpayer.

From a futures perspective, this does not seem sustainable for the long term. From a political perspective, it just seems like madness.

Oil (Again!)

As a follow up to our recent post on oil (see post), we were attracted by a leader in The Economist this week (see leader) that contained a couple of interesting facts.

1. It would appear that the commodity futures market now has $260 billion invested in it, and is 20 times the size it was in 2003. This rather supports the view that oil - and other commodities - have started to replace financial instruments and property as the places in which to store one's wealth. The article correctly states that the futures market does not deal in real commodities, but in notional commodities. However, we feel that the belief that the spot market (for real commodities) and the futures market (for nominal commodities) are decoupled is a bit naive. Investors need to resort to the spot markets in order to fulfil their notional contracts when they expire. Our information, from our oil radar contacts, is that this sentiment has been adding to the price of oil.

2. The leader alludes to how the Bush tax rebate to stimulate the economy is being spent on food and fuel. A further article (see article) suggests that as these prices have risen over the past year, more and more Americans are likely to be using the rebate to accommodate the rising cost of necessities and to use it to pay down some of the debt that they have accumulated. There is a very interesting blog that charts how the tax rebates are being spent at http://www.howispentmystimulus.com/. As a window into the lives of ordinary Americans, this is developing into a useful social comment on the times.

We are still of the view that the price of oil has further to rise. From a futures perspective, one might wonder if this is a temporary blip (as The Economist leader suggests), or if it is a harbinger of something more substantial. Are we seeing a weak signal from an emergent future?

The Year Of Hunger

How will 2008 be remembered in the future? As we head towards the point half way through the year, events are already starting to take shape. 2007 saw the increase in world food prices of 37%, which have continued to rise during 2008 (up to another 20% so far this year). It would appear that the rising cost of basic foodstuffs is likely to be a key issue this year.

The rise in food prices has been the result of a combination of three factors. First, on the demand side, rising incomes in Asia – and in India and China in particular – have increased demand for foodstuffs. More grain, especially rice, is demanded for human consumption. Additionally, as incomes increase, so does the demand for meat, which in turn increases further the demand for grain to be used as animal feed. One of the consequences of globalisation has been the rising incomes that are now being constrained by rising prices. The situation is exacerbated by the drive towards bio-fuels – particularly in the US. The US policy on bio-diesel is now starting to distort the global market for maize (corn in the US) and add to the volumes of grains demanded.

Second, on the supply side, as a reaction to rising food prices, a number of producer nations have imposed restrictions on their grain exports. Argentina and Ukraine are restricting the export of wheat, whilst India, Vietnam, and Thailand are restricting exports of rice. These restrictions on the supply of foodstuffs are acting to tighten further a market that is already tight. On top of this, a number of natural disasters have served to ensure that world food prices remain tight later in the year. For example, Cyclone Nargis is responsible for the salination of the rice paddy fields of the Irrawaddy Delta, which will transform Burma from being a net exporter of rice to being a net importer of rice in 2008.

The third factor has been the market distortion caused by speculation in the futures markets for soft commodities. The Washington Post describes food as “the new gold”. It states that “Investors fleeing Wall Street's mortgage-related strife plowed hundreds of millions of dollars into grain futures, driving prices up even more.” (See article). This has served to push world food prices even higher.

The impact of high and rising food prices are now being felt around the world. In the developed world, rising food prices – combined with rising energy prices - have led to the return of inflation as a policy issue. This has given the monetary authorities something of a dilemma. On the one hand, the credit crunch would call for a loosening of monetary policy, whereas, on the other hand, the return of inflation would call for a tightening of monetary policy. If the monetary authorities get the policy response wrong, there is the clear prospect of the return of stagflation in the G7 economies. Potentially, if inflationary expectations are rekindled, it could take half a generation to resolve that issue.

In the developing world, we can now see the effects in terms of popular discontent. Food riots have already removed the government of Haiti. As the food crisis progresses, we can reasonably expect further popular discontent – particularly in those nations where rising food prices are likely to lead to mass hunger. The Economist estimates that a billion poor urban consumers – one sixth of humanity - will go hungry this year (see article). The prospect of a series of destabilising political events across the globe is a factor that is likely to make 2008 a much riskier time in which to do business.

This is why we are starting to think of 2008 as the year of hunger.

The New Nationalism Revisited

We recently posted about the New Nationalism that is developing as a counterpoise to the process of Globalisation (see post). Since then, Cyclone Nargis has devastated much of the Irrawaddy Delta in Burma (Myanmar) and has given us a glimpse of the New Nationalism in action. Despite an overwhelming need for external aid, the Burmese authorities have been very reluctant to allow into the country much of the international aid that is on offer. The rest of the world cannot understand this. In our Globalised world, in which countries are interconnected with each other, people are finding it hard to understand why this aid is being refused.

Things look differently if we view the situation from the perspective of the Burmese government. Foreign aid is rarely just that - a gift. It is very common for aid to be accompanied with conditions, which can often be quite impossible for the recipient. For example, if aid were tied to democratic reforms, then we can see why the Burmese government might not want that aid. The delivery mechanism for the aid is often through the military infrastructure of the donor countries. We can see why, after being lambasted by the US for years, the Burmese authorities are reluctant to give the US military access to the country. There is also the suspicion of foreign NGOs, who, in the past, have been associated with a political agenda tied to regime change. Again, we can see why the Burmese authorities are reluctant to give foreign NGOs access to the country.

We are left with the position that the Burmese authorities are grateful for the aid delivered, as long as there are no strings attached to the aid, but they will undertake the distribution of the aid. This calculus baffles the west. Western governments cannot understand how the Burmese authorities are prepared to allow tens of thousands of their citizens to die from thirst, hunger, and disease rather than to open up the country to foreign aid. However, in the context of the New Nationalism - of which this is an extreme case - it makes perfect sense.

It is a price worth paying to remain disconnected, or so the Burmese authorities appear to calculate, from the rest of the world.