Big Picture (2) Economic Shift

At the same time as this massive geopolitical realignment is taking place, a massive economic shift is occurring in parallel.

• During the last thirty years, the shift of industrial production to low-wage economies, such as China and Eastern Europe, has produced an endless supply of cheap consumer goods that has flooded the entire world.

• Cheaper consumer goods have allowed most people to maintain their living standards despite a sharp drop in real wages.

• Lower production costs have eliminated inflation, allowing central banks to keep interest rates low.

• Low interest rates have fuelled a boom in prices of assets, such as housing and shares, which has massively increased the wealth of the rich at a time when the poor are struggling.

• Low interest rates have made it easy for households and governments to borrow, so debt ratios are now much higher than normal.

• The globalisation of trade through container shipping and electronic communications has allowed a massive increase in the division of labour as work has been moved to where it can be done most efficiently. This has released a huge increase in productivity which has also contributed to lower prices for consumer goods (not higher wages for employees).

The golden season is coming to an end.

• The people in low-wage countries are moving into the middle classes, so options for cheap production are disappearing.

• National interest and sanctions are undermining the division of labour as nations attempt to become more self-sufficient. This will reduce efficiency and push up prices.

• Inflation is becoming a problem all over the world, and it will get worse.

• Governments usually control inflation by raising interest rates, but in the current environment, that will likely cause a recession in economies struggling to recover from covid.

• Raising interest rates will push up the cost of government borrowing, exacerbating fiscal problems.

• The combination of high debt levels and raised interest rates will make it difficult for governments to spend their way out of any recession.

Sanctions Push
The United States is speeding this economic transition by imposing economic sanctions on Russia and China. During the last three decades, the world benefited from the removal of tariffs and free international trade, but sanctions are doing the same job as tariffs did in the past to restrict trade. If these sanctions are kept in place, the world will be divided into two trade blocs: US/EU and Eurasia. The decline in free trade and the collapse of the division of labour will make most nations worse off as goods become more expensive to produce.

The United States has pushed Russia into an alliance with China. Many nations in the Middle East are being pushed in the same direction. The Eurasian continent is going to become an economic powerhouse by combining the benefits of Russian minerals and oil with Chinese industrial production (The Soviet Union did not have the benefit of Chinese productivity). A permanent trade barrier is being raised between the United States and its clients and the nations of the Eurasian continent.

The nations of Western Europe are going to be caught in the middle. They will have to decide between submitting to the United States dictates and their need to import from Russia and China the minerals and energy necessary for its industrial production and the consumer goods that people need to maintain their lifestyles during a season of serious inflation.

Nations in Africa and South Asia are also caught in this struggle. They will be pressured to choose sides, but most will remain neutral. Very few will give their full support to the United States.

Israel will continue to be an ally of the United States because it relies on its military, economic and political support in its struggle to destroy the Palestinian people. It will become the last bastion of United States power and influence on the edge of Eurasia. The surrounding nations will tend to be ambivalent to the United States and unwilling to submit to its dictates. (Egypt will realise that it needs Russian wheat more than it needs American weapons).

International Reserve Currency
Since the emergence of the Breton Woods financial system at the end of the second world war, world trade has been denominated in US dollars. Most nations held their foreign currency reserves in US dollars because they can be used quickly to buy goods anywhere in the world. An unexpected outcome of this need for US dollar reserves was substantial demand for US Treasuries that has allowed successive United States governments to run budget deficits without any serious consequences. The current value of outstanding treasuries is upside of $20 trillion dollars. This debt will probably never be repaid, so it has been a massive free lunch.

This advantage allowed the United States to spend money on overseas wars without having to worry about paying for them, because they knew that the nations of the world would buy any debt instruments issued to cover the costs. Indirectly, the nations of the world paid for American invasions into their regions.

This privileged position is now coming to an end as nations stop trusting in the United States’ integrity and the reliability of its currency.

• In recent years, many nations have diversified their foreign reserves into other strong currencies.

• The widespread adoption of floating exchange rates has reduced the need to hold foreign reserves to protect a currency peg.

• Saudi Arabia has had an agreement with the United States since the late 1950s that it would only sell oil for US dollars in exchange for a security guarantee. This petro-dollar agreement significantly strengthened the role of the US dollar as a reserve currency. That agreement has now been broken due to United States hostility, and the Saudis are now negotiating to sell oil to China for Yuan.

• The development of cryptocurrencies and digital currencies are providing alternative secure options for governments to store their reserves.

• The United States has been shooting itself in the foot by freezing the reserves of nations like Russia and Afghanistan and pushing them out of the SWIFT system for international banking transactions. (The United States has just stolen $9 billion of Afghani reserves because it lost a war. It encouraged the UK to steel Venuzuela’s gold). It is unwittingly giving out the message that a nation’s reserves held in the US dollar might not be safe, if the current United States government gets a snitch against it.

As the role of the US dollar as the international reserve currency evaporates, the free lunch is coming off the menu, so in the future, the United States will have to pay its bills rather than just issue debt paper.

Outcome
The United States economy has been massively inflated over the last couple of decades. The various problems listed above could be the trigger that causes an implosion. This would seriously undermine the ability of the United States to project political, economic power in the geopolitical domain.

These economic headwinds will make life on earth more uncertain than we have been accustomed to.