Montrose Journal Winter 17
Political Disruption Equals Economic Turmoil. Doesn’t It?
Since the dawn of the internet age, a new fear has been stalking businesses. Disruption. A new technology or business model can wipe out a seemingly comfortable sector of the economy. And new disruption has found a new field. Politics.
Of course disruptive changes are not new (ask stage coach owners) but there is a new force behind them with modern technology. Thus we get a Brexit decision opposed by most of the business community, a President opposed by almost all the establishment in his party and a British election in which the Conservatives lost control of Parliament.
It’s worth looking separately at some of the shocks which have come in the political world. Certainly the one with greatest potential impact would seem to be the election of President Trump.
Business always says that what it wants most from government is predictability and certainty. No one who has read more than one character of a Trumptweet could accuse him of providing that. And yet markets are buoyant. In the 12 months following his election, the US stock market went up 30%, the biggest rise in any post election period since the war.
Equities are often the last to know if things are about to go wrong, but the real economy is booming too. And this at a time when the fundamentals of US policy remain unclear. The market boom and the growth all happened before there was any clarity on whether Republicans would be able to force through tax cuts. Not only has the market gone up, but over that same period the volatility has reached record lows.
Nor is the US alone in showing remarkable residence in the face of uncertain or unwelcome political developments. On the day after Angela Merkel failed to form a government, opening the way to new elections or more months of uncertainty, the German stock market went up.
Clearly businesses are a great deal more impervious to political developments than many had expected.
One reason for this is, paradoxically, the enormous distrust in which politicians are held. Because of this, over the years enormous stretches of policy have been taken away from political control. Competition policy is outsourced to non-elected bodies. Government spending has been squeezed, making its impact on the economy smaller. The fiscal balance is subject to at least advisory restraints in many countries. And most important of all, the key regulator of the economy is now monetary policy run by central banks.
Both the economic recovery and the stock market rise are being floated on a huge boost to liquidity and cheap money. And here the Trump Administration has shown itself very unwilling to interfere.
There is a strand of Republican thinking which believes monetary policy should be tight, especially when a Democrat is President. Donald Trump is not part of this strand. As a businessman his rule was always “Borrow Bigly.” So it should have came as no surprise that in the first really big economic decision of his Administration (arguably the only big economic decision) he should have opted for continuity. The new Chair of the Fed has been clear in his support for the policies of the current Chair, Janet Yellen.
There will be no disruption at the Fed.
That may or may not apply to the area where Trump the Candidate was very vocal, trade policy. Like his opponent he said he opposed the Trans-Paci c Partnership deal which had been negotiated, but by the time he said it everyone in Washington opposed it. And the tone on China in office is very different from that used in the campaign. Then it was China destroying the US economy. Now it is not their fault after all, and President Xi is a ‘great guy’ with whom he has a ‘great relationship’.
Much more important will be what happens to NAFTA, where a decision to pull out would have serious consequences for the US supply chain. There is no real sign yet whether intermittent threats to pull out of this are serious. But given the fact that the strong stock market is constantly cited by the President as his own personal achievement it seems unlikely that he will actually pull the plug.
So on the purely economic side Trump is not much of a disrupter after all. During the campaign he made much of not supporting traditional republican goals such as a rollback of Medicaid. In government he has been far more conventionally Republican than he promised to be.
And so far it doesn’t seem to matter. Recent research suggests that those who care about how voters decide get it all wrong. The traditional approach is to set out a series of policy questions, compare the voter’s views with those of the candidates, and work out from that who the voter should support. But it often works the other way round.
On most of the issues of the day, most people don’t have strong views one way or the other. But they do have strong views on whether they like people. And if they like a politician or a political party they are quite willing to shape their opinions accordingly. Someone may have strong views on immigration. Candidate Trump says he will build a wall and gets their vote. But they are voting for Trump, not the wall. So if President Trump says he has cut immigration without it, their vote stays with him.
This view of voters as fans, not policy wonks, explains why Trump economics in office is so far removed from what some of his supporters expected. It means that the actual uncertainty caused by his Administration is a lot less than might have been expected at least in the things which matter to business. This fits with research suggesting that social rather than economic resentment was key to Trump’s win.
There are of course areas where there are potentially enormous risks. A nuclear war with North Korea for example would have a huge impact. War between Saudi Arabia and Iran cutting back on oil supplies for the Middle East would be less devastating but still serious.
But these areas of uncertainty in foreign policy are exactly those which most businesses have to ignore because they cannot find a way to incorporate them into planning.
If a business is told that the risk of nuclear war with North Korea has gone up from 1% to 2%, what can they do about it? Most simply just shove the fact into a ragbag of miscellaneous risks and then forget about it. (That is exactly what happened to the financial sector before the financial crisis.) Disruptions are what the statisticians call “tail risk,” the chance that what happens is somewhere right at the edge of the chart showing how probable things are. Price mechanisms are very bad at handling rare events, which is why we have regulations.
Of course, the emergence of people who are agents of disruption is often in itself an example of tail risk. Trump was thought to have no chance when he started his campaign. Two years ago who would have thought Jeremy Corbyn would become leader of the Labour Party; six months ago who would have thought he would lead it to its biggest vote share gain since 1945?
But just as these sudden changes come without warning, so can they go. Political analysts love to identify a target group who will decide the election. Trouble is they usually identify the person who decided the last, whether it be Metro Man or Worcester woman. In the US, Democrats said Trump could not win because he alienated suburban Republican women. In the event the election was decided elsewhere.
This is important. The way policy is determined is based on an increasingly narrowcasting view of voter behaviour. Quite small groups with high intensity can provide a win, especially in a system like the electoral college. Rather than see a general attitude to trade policy, for example, we are likely to see an attempt to get specific groups helped, whether they be US chlorinated chicken farmers wanting to sell to Britain or US airplane makers wanting China to buy their products to remove the trade de cit, rather than cutting back on what the US imports from China.
Business always says it hates this approach because it gives power to government to decide who gets rewarded and who gets punished. The call is always for simple rules which everyone can obey. (The fact that in many cases, such as tax, simple rules are easy to get round may also play a part.)
For an Administration dominated by men who made their fortunes in deal making, where making the terms of the deal is different in every case such an approach is an anathema. But in reality, the Administration attitude on this is closer to how business actually works than the idealised rule- based approach.
How this works out in practice might be most closely tested by anti-trust action, not something the Administration finds philosophically attractive. Will Trump try to use the power of government to punish those he dislikes? Is that what lies behind the decision to go after the AT&T merger with Time Warner, owner of CNN. (Particularly striking since a different branch of the government is handing a huge favour to AT&T by scrapping net neutrality.) Business is certainly going to need to work hard to navigate these rapids.
Business leaders say they hate this, but they have actually become accustomed to handling exactly that. Lobbying activity is so intense and the responsiveness to it of the American political system so sharp that successful businesses will find few problems. Note here our old friend the curious incident of the dog that didn’t bark in the night. Or in this case “tax reform.” Tax reform means removing the forest of special breaks which businesses have secured to pay for a cut in the basic rebate. That is why whenever it is tried massed armies of lobbyists invade Capitol Hill and the airwaves to denounce the threat to civilisation. This time we hear nothing. Because what is really in play are tax cuts. Congress wants to give away $1.5trillion, most of it to business. That can’t be hard to do.
Before there was Trump there was Brexit.. Many attribute the vote for the UK to leave the EU to the same forces as led to the Trump election. That’s true to a degree, especially on the question of immigration. But it is also true that the focus on the economic dissatisfaction of white working class distorts the picture. Some traditional Labour areas did indeed vote heavily for leave; but so did most heavily Conservative areas outside the Southeast. What makes Brexit particularly problematic is that implementation has to undertaken by a parliament and a bureaucracy which was massively opposed to the whole idea.
Referendums are fairly new in Britain and the reason they are adopted is a reason the result is almost never respected by the losers. Referendums on a UK level are held when a topic causes such bitter debate. Within parties that no internal agreement is possible. That is why Labour promised a referendum of EU membership in the early 1970’s, and Cameron promised one for 2016.
Referendums have another characteristic which makes them problematic. They can be vehicles which the public use to express general annoyance, as for example a referendum on some quite minor local government reforms which turned into a vote of no confidence in General de Gaulle.
The 2016 referendum clearly contained a big element of people saying they were just fed up and expressing it as a desire to leave the EU. The more the voices of respectable opinion said exit would be a disaster, the more those who were fed up with being lectured to were determined to vote to go. There was also a feature in its design which threw away the greatest strength of those who wanted to stay. This was the vagueness of what Leave meant.
Other referendums in Commonwealth countries on topics like the monarchy or flag offer a specific choice, as New Zealand did when considering an option to replace its current emblem. And of course no one could agree on a replacement.
Suppose the referendum question had been “Should the UK leave the EU and join EFTA” or “Leave the EU and seek a Canada plus arrangement,” it is hard to believe it would be leaving now.
But it is and the consequences of that are still being felt. The rationale behind Theresa May’s decision to call an election was entirely sound. All the evidence suggested the Conservatives would win a huge majority. With that endorsement, the Government could have played hardball with the other EU members, knowing that its position at home was secure.
Instead of which it now lacks a majority in the Commons, has basically been reduced to conceding all the EU demands and is about to plead for a transition period which will be like being in the EU without having any vote.
But it won’t be like being in the EU. The overseas- owned financial sector has been quickest to grasp how huge a change is planned but others won’t be far behind. At least a glimpse of this new reality emerged in the latest British budget, with its substantial downgrades to growth estimates.
Just what the alternative route for Britain is going to be is impossible to discern and likely to stay that way for several years.
The two obvious big changes in the past 18 months at least superficially involved a rejection of what one might call the Davos consensus. France is the exact opposite. After years on which Left and Right have alienated without challenging the extent to which France differs from the modern consensus it how has a President and a parliament which embraces it. Most outsiders have long felt France ended radical change. And the Presidential election, which forces people to choose only one winner, is the way such change can come about. How well that works in practice will be a big test of whether policy can really change things. The experience of Mrs Thatcher in Britain suggests that it can, but rarely painlessly. But if it was painless they would have done it already.
All the above are examples of how a binary choice can lead to big change. But much of the rest of the world has a system of proportional representation which makes that unlikely. Indeed in many countries in Western Europe the problem is not bad government but no government. Belgium was without a government for 589 days. Germany now seems to find it di cult to get a majority government in a parliament where 20% of the seats are occupied by parties which either won’t join a coalition or are unacceptable or both.
But in Europe at least national political paralysis is far less important than it once was. As the UK is discovering as it tries to disentangle from the EU, huge areas of policy are now made at the European level. National bureaucracies implement European directives and can go on doing that without the politicians being there to bother them.
There’s another word, apart from disruption, beginning with the letters DIS, which we are all going to have to learn and understand. This is disintermediation. The traditional channels- people, parties, papers- by which voters learn who deserves their support no longer work.
As recently as 2012 a study of the US suggested that party Establishments decide who gets the nomination for Presidency. Donald Trump was universally condemned by the Republican establishment. Not just did all its members prefer a different candidate. He was described as wholly unsuited for any office.
No major newspaper outside the Murdoch group endorsed him. More striking, major papers consciously took it on themselves to point out his false statements. His tweets were for a series of ga es. And yet he tweeted his way to the White House, spending far less on advertising in the Primaries than some rivals.
In Britain, Jeremy Corbyn was only able to stand for Labour leader by getting nominations of MP’s who were sure he would be eliminated. After a year 23 of the 31 members of the Shadow Cabinet quit in protest and the Labour MPs passed a vote of No Confidence in him by 172 to 40. Yet he won a subsequent election with 61% of his party’s vote, an even bigger margin than first time.
His success owed much to the use of social media such as Facebook to reach young supporters. The power of this approach was shown when his party registered its biggest vote share gain since 1945.
The traditional role of intermediaries in politics is that they know more than the average voter. That way the public is warned against charlatans and duds. It is a political equivalent of a restaurant guide warning against the places to avoid. But it’s pretty obvious that voters have lost faith in the reliability of this process. Now they are happy to decide direct, just as they decide on who will emerge as a star on the internet.
The key feature of that process is that no one can predict who is going to emerge. And that is an uncertainty we are all going to have to live with.
David Blake is a financial analyst and commentator.