Since 2007, the global economy has been in a near permanent sate of semi-crisis. Forget about Jamie Dimon’s quip to his daughter that a crisis is something that occurs every five years. Start thinking of the global economy as being in a permanent state of crisis. I have some thoughts on what this means for the economy and for investors and why I am couching the situation from this vantage point.
I am not sure how this post is going to turn out because I don’t have a grandiose vision of doom and gloom to peddle of what you should do to protect your wealth as the financial system crumbles. The title of this post is coming out of that kind of thinking. Rather, I was musing over the past several years and thought that 2014 could actually be a decent year because, for the first time, really, since the financial crisis began, there is no major crisis to disrupt the global economy.
Think about it. In 2007 and 2008, the global economy was wracked by a crisis that emanated from the subprime crisis in the United States as a result of systemic fragility in the heavily indebted household sector. 2009 began with that crisis reaching its apogee and ended with the bust in Dubai World and exogenous shocks that began the European sovereign debt crisis. And then this crisis lasted pretty much through 2012. Then, just as the European crisis was ending with the rescue of Cyprus, an emerging markets crisis hit in 2013 as the Taper Tantrum went into effect and hot money flowed out of the emerging markets.
So I was thinking of 2014 as the first year without crisis. Then I realized, first, that the second round of emerging markets volatility began only just this year after the Fed started to taper and second, that we have a major geopolitical and economic crisis on our hands right now, with the confrontation in Ukraine as a proxy war between the US and Russia. Silly me: here I was thinking things had normalized. And a huge crisis is looming in the background. In fact, just this morning I had read about additional sanctions being imposed on Russia even though the Russians have officially supported the West’s position in trying to release of the OSCE observer hostages, which ostensibly necessitated the additional sanctions.
So, here we are in 2014 in yet another major crisis. That left me with no alternative but to recognize that the global economy is in a permanent state of crisis. First, let me talk about this latest crisis a bit and make some general comments on the permanent state of crisis to wrap up.
We have entered the propaganda phase of the US – Russian proxy war in Ukraine. Think of this as similar to the proxy wars in Korea and Vietnam where the great powers are unable to confront each other directly because of mutually assured destruction. So they use third parties as pawns in a battle for geopolitical strategic superiority. US President Barack Obama has already said from the outset that there is no military solution in Ukraine, meaning that the US will not intervene militarily, ostensibly because the US would lose the moral superiority by taking military action and it would invite intervention from Russia and lose. Moreover, Ukraine has no geopolitical importance to the United States whereas it has a lot of importance to Russia. Yet, here we are in the throes of a new Cold War. And let’s be clear that this IS a new Cold War because we don’t see the US impose economic sanctions except against so-called Rogue States like Iran or North Korea. This is a very serious shift in geopolitics.
On the propaganda front, it bears mentioning how this functions because most people in the West think the press is free and impartial. But take a look at this article on US drone strikes in Yemen. What you will notice in this dissection of a typical mainstream media report from the New York Times is that the information is written in a way that systematically reveals deference to authority in a way that ends up slanting the article toward the US administration’s framing of the issue. Terms like “militants” instead of “alleged militants” and the use of “according to US officials” matter psychologically for the reader. I think I have discussed how we process information often in the past. And in particular, if you look at this James Montier-based post on suspension of disbelief, what you will see is that we need to believe/suspend disbelief first in order to process information. If the information being processed contains a slant, we will unknowingly process that slant, with unknowable effect on how we do process the information and on the conclusions that we draw. I recommend you read that post.
On Ukraine, a Washington’s Blog post from two weeks ago is informative regarding the reporting of the story. And one of the interesting angles in that piece is that Western media often accuses others of “propaganda” when the accounts coming from the West are themselves biased. Take a look at this article I tweeted last week from the FT entitled “Putin: Russia’s Great Propagandist” or this article from the Economist entitled “Russian propaganda: 1984 in 2014”. I have seen the same in the German press. This article from Die Welt called “Gazprom: Wie Putins Gasriese seine dunkle Seite versteckt” doesn’t outright accuse Gazprom of promoting pro-Riussia propaganda. However, it suggests that Gazprom is using its sponsorship of the German soccer team Schalke 04 as a way of covering up its “dark side” as it tries to co-opt the German gas market.
Now, step back and think about this objectively for a second, without a nationalist hat on. Isn’t clear that what we see here is nationalism? I mean the German article is the one that is most obviously nationalistic because it is designed to raise concerns about Gazprom’s intentions in Germany – and soon France – given its ties to the now bellicose Russian state. The purpose is to suggest that Gazprom, because it is a Russian company, is not a company that should be trusted.
I see this as propaganda pure and simple. And the purpose is to shape the narrative in order to more easily persuade the public that a particular government is acting in good faith. But of course, the situation in Ukraine is infinitely more complicated than that. And each government actor is acting out of strategic interests, not ones steeped in moral rectitude.
What’s the takeaway here: More and more, it is important to read a multiplicity of media accounts of the same story. I read conservative, liberal and libertarian accounts. I read American, British, French, German, Spanish, Greek and Russian accounts. I try to read as many different angles on the same story in order to subject myself to as many data points as possible in order to override my own biases. And even then, I reckon I am not 100% successful in doing so. But in a world in a permanent state of crisis, the takeaway must be bombard yourself with cognitive dissonance and process that dissonant information with a suspension of disbelief if you want your portfolio to remain intact. There are so many people selling a point of view or an investing story that is predicated on faulty premises and bias that it is easy to get caught up in their web.
Permanent crisis means macro takes on increasing importance. It also means that the political economy is increasingly important because geopolitical risk is greater. And increasing ideological bias in a world in which downside risk is heightened. Ideological bias has no place in an investment portfolio that is subject to heightened risk. Given what I heard from Paul Brodsky about Gazprom trading at an incredibly low multiple and huge discount to firms like Exxon Mobil, I look at the article in Die Welt in a different light. My question then is whether the 80 or 90% discount sufficiently compensates for the geopolitical risk evident in reporting like what we see in Die Welt. I think the answer is yes. When you enter the propaganda phase of any economic cycle – as we also did during the European sovereign debt crisis by the way, it invariably means that psychology is going to drive some investments to deep discounts that the fundamentals simply do not warrant. This is an investment opportunity that it pays to investigate. And I think we are seeing that with Russian equities and bonds.