Monday, January 5, 2015

The New Geopolitical Order

We are currently witnessing a new geopolitical order developing, but in order to see what the new order is going to look like, we must first understand the previous order. So I'll start this post with a basic history lesson.

The Previous Geopolitical Order and How We Got to the Current One:
The previous order was built at the end of World War II. Before the 2nd World War, the world was effectively run by the Europeans (even though the Americans were powerful since the mid 19th century, they really didn't care).

There really was universal trade between all the countries of the world, but there was trade within each of the imperial regimes that was protected by the militaries of those imperial regimes. For example, the British military protected British trade within the British Empire, the French military protected French trade within the French Empire, and similar things were done by the Russians, Dutch, and others. This geopolitical set-up meant that a war between countries in Europe meant a massive World War. This setup culminated in the Second World War.

After World War II, basically every single boat was in the bottom of the ocean except for the Americans, which led us to the Cold War era. At Bretton Woods in 1946, the Americans set up an alliance network that guaranteed security and protection of trade to every member of the network in order to fight the Soviet Union. The US also provided a market for every member in the network without demanding reciprocity (effectively bribing other countries). For lack of a better word, this geopolitical order will be referred to as the "free trade order" for the rest of this post.

The Current Geopolitical Order:
Ever since the end of the Cold War, the American support for the free trade order has been dwindling. The geopolitical benefits deriving from the free trade order have been falling while the economic costs have been rising. As I've detailed before, the economic cost of the free trade order comes about because of the international monetary system and its hallmark as the US Dollar being the reserve currency. Basically, the USD being the reserve currency forces the most capital rich country--the United States--to import capital which creates asset bubbles, demand leakages, asset bubbles, and eventually excess unemployment.

Notice that the Cold War ended about 25 years ago. The only real advantage the US has had from the current geopolitical order/monetary system over the past 25 years was that it allowed the US to secure its energy supplies as the US was a massive importer of key economic inputs, primarily oil. Now, the US is the world's largest producer of crude oil and natural gas due to the breakthrough in hydraulic fracturing (fracking) that is rapidly changing the energy landscape of not only the US, but the world as a whole. Even though the US is still a net importer of crude oil, the US no longer needs energy from countries like Saudi Arabia and others in the Middle East. All of the necessary oil the US economy needs can come from North America and will soon do so. Actually, the Saudis now preposition oil tankers in the Gulf of Mexico because the Americans no longer need their oil and they haven't been called for it in a while.

So we're now in a situation where the world's current geopolitical order serves absolutely no purpose to the people in charge (the Americans). The current order was designed for a different time and era with different threats. The leader of the current order, the US, was gaining geopolitical benefits at a longer term economic cost. As time passes, the geopolitical benefits to the US continue to dwindle while the economic costs continue to worsen. On top of this, the US is experiencing demand leakages during a time of worldwide depression. Naturally, this is leading to an inevitable shift in the way the world operates.

Over the past few years, we've seen the US pull out of Afghanistan and Iraq while being much more hesitant to promote "stability" in other regions (it seems like the US government only cares about destabilizing regions to undermine foreign governments, but that's a different topic for a different day). We've also seen countries like Japan and China follow economic development models designed to take advantage of the American economic system by accumulating large amounts of reserves using an undervalued currency while the US becomes forced to run large current account surpluses. The USD ends up being strong in the FX market while American business loses demand and production to foreigners.

The Coming Shifts in the Geopolitical Order:
Essentially, we're seeing the American support for the global free trade order dwindle. The Americans no longer want to be the world's policeman, which means that the geopolitical order will have to shift. What we are interested ìs how the world's order will shift and what will be the impact of the shift. Since the end of the Cold War, the US has used the international order to guarantee security to guarantee trade to guarantee energy. The US no longer needs the energy any more which means that we no longer need to guarantee trade so there's no reason to guarantee security.

What does this upcoming shift imply? It implies that every country that has relied on American protection for its trade is in trouble. This will affect countries that are reliant on external protection for both economic inputs and economic outputs. The first countries to experience trouble, as I've already discussed, are countries that're heavily reliant on exporting commodities for different reasons that happen to be primarily economic.

The countries who are in the most trouble after large scale commodity exporters go down economically are countries that import large amounts of economic inputs. The first countries that come to mind are countries like China and Japan. Other countries that're in trouble are countries like Saudi Arabia and other major energy exporters who rely on American protection for shipments will be in major trouble.

Also note that the American protection of global trade allowed for certain countries to import food at relatively cheap prices (primarily in the Middle East). Many of these Middle Eastern countries have exploding populations with very high fertility rates while importing most of their calories. In a world without global free trade, we're likely to see famine return (see map below from this link). In other words, we're likely to see large population corrections in many of these countries. Groups like ISIS will become more prevalent throughout the world--particularly in the Muslim world. Much of the Islamic world is in a whole heap of trouble.
Note: In the map from the attached link, countries in the red (horrible) and orange (bad) are net calorie importers while countries in green (good) and blue (better) are net calorie exporters. The countries in purple (okay) are relatively flat.

The Return of Empire and Possible Empires to Look Out For:
We're also likely to see a return to neo-colonialism across the world. If you're a country with guns/technology and rely on importing key economic inputs, the obvious solution is to go to a country that doesn't have the guns/technology to fight you, hold a gun to their head, and effectively take what you need as an economic input. This primarily applies to the Europeans. Even though they are fading away from power and effectively destroying themselves, they still have guns and many of these countries need energy. So it makes sense for a country like Italy to take over the Eastern part of Libya (the region held by the rebels) and use its natural resources for its own gain. Similarly, we could see Algeria returning to France. Note that these regimes may not be the exact same as what they were previously, but the regimes in these countries could develop into proxies of European governments that eventually become imperial

Russia is doing this with the countries in its region and is effectively recreating the Russian Empire (this has been called the Eurasian Union). I touched on this issue in my previous post on Ukraine, but I only touched on it. The countries in Eurasia are landlocked, sparsely inhabited, and consist of harsh terrain, but they do contain lots of natural resources. Integration with Russia just makes sense for most of these countries. The countries in question are Kazakhstan, Armenia, Belarus, Kyrgyzstan, and possibly Tajikistan. 

We could also end up seeing a recreation of the Persian Empire. Notice that most of the oil/natural gas reserves are located around the Persian Gulf (see first map below) and the location of these reserves are all Shia population zones (see second map below). As we've previously discussed, the Arab countries are heavy importers of food and heavy exporters of natural gas/oil who're strongly disliked by the Americans at a time when the Americans are no longer willing to police the world. In other words, Persian interests are starting to align with Americans once again. We could easily end up seeing a return of the old Persian Empire that spans across modern-day Iraq with Baghdad to the northeast and spanning across the Persian Gulf to the Eastern edge of the Arabian peninsula.

What I'm basically saying is that we're going to see history return with a twist. What's the twist? I don't now. We can never know what will happen, but we do know that the current landscape will not hold.

Note: Countries who are relatively insulated from external demand shifts and don't rely on importing lots of natural resources will be relatively okay. If you do need to import a lot of natural resources, guns and technology make the job a lot easier. If you lack food, but have guns/technology/money (or some weird combination) you can find ways to make sure your population gets enough to eat.

Note: These are not predictions. They are possible scenarios and things to look out for. We do not know what will happen, but we can--at least to some degree--determine the possible risks we face.


  1. You are COMPLETELY wrong on your future assumption for oil production in the USA.
    And USA government knows that fracking is not an answer, it is a quick band aid that destroys and poisons the land. It can not go on for a long time.
    Why do you think USA and Europe sanction Russia at the tremendous loss for themselves? Do you think they enjoy loosing billions of dollars in lost trade and reverse sanctions?
    The truth is the Russians beat them to the punch in Arctic oil exploration and now USA is trying to catch up by slowing down Russians as much as it can. This is not present in your analysis at all or at least I could not find it yet.

    1. I think the Russians are actually in a very tough spot. Russia's primary revenue source is commodity production and Russia is economically incompetent. Demographically, Russia is in an even tougher situation. Also note that most of the peoples of Russia that have very high fertility rates are groups like Chechens who have had issues with the Russians for a while. The North Caucusus could flip in a decade.

      Russia will need to fund its military with a falling demographic where most of the young have massive disease issues in a time of economic hardship. Good luck.

      BTW, I don't think the Russians have the capital base to actually explore any of the areas. They cut education in the late 80's and never picked it up. They don't have the human capital or the financial capital. They need help from other people.

      Also, I'm not in favor of fracking (it does have negative environmental impacts), but once a well starts producing, it keeps producing for decades. It's not like drilling for oil in a conventional sense. I'm also not sure that drilling in the Arctic is safer. So many things could go wrong there and it has worldwide impacts.

  2. Well, I've only just started reading this. But I've already found a schooboy error: the Americans didn't set up Bretton Woods, it was put together by the British Empire and the US together. And it wasn't created to counter the Soviet Union, it was set up to try to fix some of the problems under the gold standard (particularly countries rigging their exchange rates to accrue gold, screwing their trading partners and creating political instability), hence Keynes' proposal of the Bancor. This was to be supervised by the IMF. The world bank was also created to fund the rebuilding of Germany and other European economies, lest there rapidly be new wars in the aftermath of WW2. The Soviet Union was allied with the West and was not perceived to be a threat until several years later. Indeed, Harry Dexter White was a Soviet sympathizer , and a number of Roosevelt's policies were influenced by the Soviet Union, as, initially, to outsiders, the Soviet Union seemed to be quite successful (we all now know that that was a lie).

    1. Actually, Henry Morgenthau's speech at the end of the Bretton Woods Conference specifically stated that the creation of the World Bank and the IMF was the end of economic nationalism. He also stated that they wanted to end the spheres of influence that developed in the Imperial Era. Morgenthau was FDR's Treasury Secretary.

      That brings me to another point, the people who negotiate these things don't really have many choices. They're constrained. White was a Soviet sympathizer, but that doesn't mean he really had many choices. Any treaty that's ratified must go through Congress and get a 2/3rds majority at a time when the Republicans controlled (I think) both the House and the Senate.

      Secondly, the US was still bombing German cities after the war ended to prevent the Soviets from gaining more territory. Just because you ally with someone against common foes doesn't mean that they're your friend or that you can trust them.

      Also remember that the US was effectively controlling movement of capital to rebuild the rest of the world and provided much of the defense. What does that mean? It means the other guys (ex. UK, France, etc.) are basically your bitch. They have to do what you tell them to do. This is basically what happened when the UK and France took control of the Suez Canal and the Americans threatened them with financial warfare.

      We spend a lot of time talking about the choices made by policymakers, but we fail to consider that they may not have very many choices to begin with. They're constrained by the system they're in. They may wanna do something, but they usually can't do what they want. No successful country can ever depend upon the decisions of one man or a few individuals.

      We may think that because we're powerful, we can do whatever we want. However, if you wanna remain in power, you don't really have any choices. This is the way I look at Bretton Woods.

    2. BTW, I think very highly of Keynes' proposal. It's an excellent one, but it wasn't gonna get through.

    3. Here's a link that talks about this issue.

      "One of the most contentious issues was the system of preferential tariffs established among the members of the British Commonwealth in 1932, whereby trade within the Commonwealth was subject to lower tariffs than trade between the Commonwealth nations and the rest of the world. U.S. officials such as Cordell Hull opposed imperial preferences on both ideological and practical grounds—the United Kingdom and Canada, both members of the system, were the United States’ two largest trading partners—and called for their abolition; however, many U.K. and other Commonwealth officials favored keeping the preferences, at least until the United States agreed to reduce the high Smoot-Hawley tariffs set in 1930. After more than four years of negotiations on this and other issues—such as the rules that would govern tariff negotiations and the structure of a proposed new organization to oversee international trade—agreement was finally reached in 1947. Twenty-three nations meeting in Geneva from April to October 1947 concluded the first postwar round of tariff negotiations, leading to reductions in tariffs and imperial preferences, as well as a draft charter for a new institution, the International Trade Organization (ITO). Participants also signed the General Agreement on Tariffs and Trade (GATT), designed not only to implement the agreed tariff cuts but to serve as an interim codification of the rules governing commercial relations among its signatories until the ITO was created. In November 1947, the United Nations Conference on Trade and Employment convened in Havana to consider the draft ITO charter; four months of negotiations later, the representatives of 53 countries signed the finished charter in March 1948. However, strong opposition in the U.S. Congress meant that the ITO never came into existence. Instead, it was the GATT that governed postwar international trade relations for almost fifty years. Under the GATT’s aegis, eight rounds of trade negotiations resulted in significant tariff reductions among its members before it was superseded by the World Trade Organization in 1995."

    4. I agree with all your points in your reply. Economic nationalism = rigging exchange rates, and you also highlight preferential tariffs/trading zones (e.g. the UK's commonwealth which was used to fund its empire). I've read 'The Battle of Bretton Woods' too so am familiar with the subject matter. But I dispute that the Soviet Union was viewed as a threat. They were underestimated by everyone, including Hitler, whose failed campaign contributed significantly to Germany's failure to win the war. If anything, the US viewed the UK with distrust, as they had been the dominant superpower, although their power really peaked in the late 19th century, by which time the US was exporting something like 3x as much value of goods. But yes, none of this was done with Russia in mind as they were not yet a threat. Agreed that they were not that much trusted. I'd dispute your argument that the hands of policy makers are necessarily completely tied, For example, the regime prior to Roosevelt preferred to punish the Germans and balked at the idea of contributing any funds to assisting them rebuild; had Roosevelt not been elected, the world might have faced disaster. Also, UK *was* the US' bitch: we got screwed in return for being lent to at a not wonderful interest rate. Keynes could have got a better deal for Britain by borrowing from private bankers at one stage, but he passionately felt the opportunity to at least try to fix problems in the international currency system. Unfortunately, he and Bretton Woods came at the wrong time to do so. He was clearly a great, great man, although Harry Dexter was also clearly a great man, by far the most important US economist in terms of his beneficial impact on the US' world standing, and yet no-one knows his name!

    5. I don't think the USSR was that big of a threat. The problem with Hitler is that he was an idiot. You don't beat the Russians by invading Russia. Russia is way too large, it's terrain is very harsh, it's difficult and expensive to build infrastructure, Russian winters are hell, and supplying troops is extremely difficult.

      The way you beat the Russians is by forcing them to fight proxy wars on all their border, force them to take up economically useless projects for geopolitical reasons, stretch their military thin across all of their borders, and contain them until their economy collapses. Once their economy collapses, they won't be able to finance the military and their borders weaken.

      I haven't read "The Battle of Bretton Woods", so I'm sure you know about it a good bit more than I do. That being said, Keynes was an absolutely brilliant thinker (it's a disgrace to call him an economist IMO). That being said, I HATE Harry Dexter White.

      With regards to the pre-FDR administrations, I think the problem goes deeper than that. The geopolitical structure in Europe is designed for war, not for trade. I can go on a rant about it, but I'll just add a link to redirect you to a rant I had on Michael Pettis' blog (one of the best economists we have today if you aren't familiar with his stuff).