I've Got A Bad Feeling About This

By Michael Every of Rabobank

Ideally, I would have written this on May 4th not 14th, but I am going to talk Star Wars.

I was a fan in 1977, kept the flame alive when only battered VHS cassettes of the original trilogy existed, and was delighted to get prequels. Until the opening crawl announced, “The taxation of trade routes to outlying star systems is in dispute.” I recall thinking, “This is my job - boring!” But the prequels were better than the sequels and all the TV shows I don’t watch. Indeed, the prequels’ clunky theme of democracy crumbling into autocracy, dispute over trade routes, then war, seems even more prescient than my 2016 ‘Thin Ice’ report, which underlined how the 21st century could echo the 20th, and our more detailed fragmented ‘World in 2030’ report in 2020.

In just the last week: the IMF warned the world risks splitting into walled-off FX/trade blocs; The Economist stated “The liberal international order is slowly coming apart,” with “a worrying number of triggers that could set off a descent into anarchy”; Germany flagged conscription for all 18-year olds and spending over 3% of GDP on defence; China introduced military training for all High School students; Biden raised tariffs on Chinese EVs to 102.5%, and Trump said he would make it 200%, with tariffs on used cooking oil likely next; Bloomberg warned “The US, China, Russia are in a spiral towards war”; the manager of the Hong Kong trade office in London was arrested for spying; and, as some underline Russia has shifted to a full war economy that incentivises the martial, my prediction that markets will serve national security going forwards came true in Putin firing his defence minister to appoint an economist to the role instead.

Moreover, former US Trade Representative and potential Trump Treasury Secretary Lighthizer (or Lightsabre, having been advised by the Obi-Wan Kenobi of Godley balance sheets, Michael Pettis) argued the US --and all countries save those with natural advantages-- should, over time, run balanced trade where they export only in order to import rather than to accumulate trade surpluses. He believes, correctly, that comparative advantage is movable via industrial policy and FDI, which Ricardo assumed could never happen in his free trade theory.

Lighthizer/sabre says tariffs are not the best single way to achieve this; a weaker dollar to do so would require interfering with the Fed to slash rates, which he’s not enthusiastic about – though Trump may be; and the bluntest method --a certificate of export needed to purchase an import-- is incompatible with a free economy; so that leaves capital controls and/or hefty taxation on capital inflows into US assets to prevent foreign parties parking dollars earned from trade there. Logically, if you remove the capital account inflow, the current account outflow (i.e., the trade deficit) also disappears.

Such an outcome is a proton torpedo down the global-trade-and-market Death Star’s exhaust shaft. If the US runs balanced trade, the flow of dollars to the offshore Eurodollar system grinds to a halt. Those tens of trillions of debts will need to be serviced with the 7-ish trillion of dollar FX reserves, or new *offshore* credit, or Fed swap-lines, granting it new Force powers. FX would swing wildly (as some already call dollar strength vs. EM “sinister”). Global supply chains would be up-ended from the Light to the Dark side. Current practices in financial markets would naturally blow up. And all of this is advocated by a former USTR --a role selling more free trade to the world until 2016-- because it’s the only logical way for the US exit a global system that is weakening it in many fundamental regards, even if a few prosper mightily from it.

Padmé Amidala bewails in one of the Star Wars prequels, “So this is how liberty dies, with thunderous applause,” and there is a lot of that happening too. But so far neoliberal market liberty dies to thunderous snores. The vast majority working in markets are paying no attention to this global backdrop at all. Which brings me back to Star Wars again in a different sense.

There is an 18-year movie-time chronological gap between the last Star Wars prequel and the first Star Wars from 1977. In that short timeframe, everyone in the galaxy who’d witnessed Jedis running round performing miracles for much of their lives forgot what lightsabres and Jedi were. That much is clear from Han Solo’s dismissive comments about the Force to Luke Skywalker in Episode IV. I had always thought that was just bad scriptwriting.

However, perhaps everyone in Star Wars knew what a Jedi was, but didn’t want to lose their jobs: likewise, the systemic risks to markets in our global backdrop are not fit for polite conversation among central banks and their watchers. These aren’t the droids (or trades) you are looking for. Move along.

Or, maybe people forgot because nobody in Star Wars reads. People in the movies look at screens, but you never see a book except the Jedi Scrolls, of which even Yoda says, “page-turners, they are not.” The Star Wars universe is thus post-literate, which would explain why a population sending real-time holograms across the galaxy are unable to remember something important that happened very recently. Today, financial markets are also full of screens, but rarely books. They have all information possible, but nobody can remember classical economics, or what happened last month, let alone 18 years ago. Where was Fed Funds in 2006? What was happening in markets? What did the Republic look like? Were there disputes over the taxation of trade routes? Were Jedi strolling around? “Who knows? I’m buying all the things!”

Indeed, GameStop looks like it’s going to happen again, for those who can’t recall how it ended last time; “May the Market Forces be with you” – until you are manipulated by a hidden Sith somewhere. Moreover, the Aussie budget yesterday had much lower government inflation forecasts than the RBA’s Statement on Monetary Policy just before it - so, ‘rate cuts are coming!’ again. Of course, this political Jedi mind trick suggests we are about to get more subsidies for consumers to artificially depress some elements of CPI while actually juicing the economy: as always on fighting inflation, it is “Do, or do not. There is no try.”   

To conclude, a long time ago on a trading floor far, far away I was asked for my simplest forecast for our future: I said in the best case, Star Trek --united mankind working together-- and in the worst case, Star Wars. And here we are.

“I’ve got a bad feeling about this,” to put it mildly. So do the IMF, The Economist, some at Bloomberg, the German defence minister, and Xi Jinping.