#134: Risky Business: Preoccupied Superpowers and Cake Theory
Dec 11, 2023; 19 min read; including a 7 min summary of how bad the 1930s were
In Tom Cruise’s breakout movie Risky Business, his parents leave for a trip and his life is upended in a teenage variation of “the mice will play when the cats are away” — with chaos catalyzed by characters like Guido the Killer Pimp.
Since WWII, the world has been dominated by two (divorced?) parents who admit they don’t like each other : the US and the USSR until 1990; a period of single parenthood (the US from 1990 until circa 2008, and then a new reigning pair of ‘partners’ since then (the US and China). I’ll argue in this piece that the era of two superpower surveillance and control is weakening, perhaps past a tipping point, which might catalyze a variety of autocratic ‘mice’ breakouts, and that the coming decade might bear some resemblance to the 1930s, a period without dominant powers and thus widespread chaotic functions, in a world transitioning from economic downturn to lesser skirmishes to outright global hostilities.
US: divisive and inward — hate as a defining function?
Trying to sum up the US is never easy but the last few years have been somewhat surreal. While the US is still undeniably a great power, there are issues to worry about on the margin, not even counting the Jan 6 incident after the last presidential election.
The demise of pluralism, as well as the idea of a loyal opposition — for a democracy, this is not a positive development — as if each party doesn’t believe the other party has legitimate views. Social media might be fanning the flames of polar demonization but this underlying trend has been around for a while. And even within the parties themselves, serious ideological rifts have emerged (and in the UK too), and the US House Speaker issue may be a warning sign that things are different.
The rise of issue outrage — although the US seems pretty united around the Ukraine invasion, the Gaza conflict has been highly divisive, the way some Supreme Court rulings (on abortion and gun control, for instance) have become. The hair-trigger tendency to become an outraged victim, get on a digital soapbox with a megaphone, and to try to cancel a university president or someone is truly lamentable.
Immigration is increasing globally, and is a contentious issue (perhaps there is more high urgency immigration?), and so too is it divisive in the US, despite it being a fundamental pillar of the US historical narrative. While the debate largely concerns the Southern border, even high skill immigration is at risk, as the descendants of immigrants feel justified in keeping out any new immigrants.
Is isolationism on the rise? After many failed or ridiculously expensive interventions in global politics, perhaps the attraction of Pax Americana has lost its glow (or its relevance), especially when more pressing domestic problems exist — homelessness (a kind of internal immigration), and the growing sense that the American Dream is slipping away.
Trump vs Biden II: Nightmare on Pennsylvania Avenue is a likely sequel that no one is really excited about even if we are resigned to the idea that two ex-President near octogenarians are the only qualified people to run the country. In both cases it would be their second and final term (unless someone changes the Constitution) so the incentive to run an end game strategy (be far less nice) is much more likely than for someone in the first term. For Orange Jesus (Trump) specifically, he has helpfully stated he only plans to be a dictator for a day, and it seems clear he will attempt to settle scores should he prove victorious (current odds about 40%).
Ex. 1: US Credit Growth (YoY, quarterly)
My view is that the primary underlying causes are the backdrop of income inequality (which is well correlated with the urban vs rural polarization, and to some degree coastal vs inland communities), combined with the immediate catalyst of deleveraging / rate normalization, accelerated into a frenzy by the advertisement-driven media. Of course there are many more factors than this, but on the margin it feels like a prelude to a modern Civil War, except that it’s not only the issue of slavery that characterizes the chasm separating the two sides.
If my hypothesis is correct, the US will, on the margin, spend more time expending energy on divisive domestic issues, and less time policing the world, which would allow aspiring autocrats around the world the freedom to act like drunken teenagers.
China: the surveillance state of common prosperity
One of my (bank analyst) colleagues once said to me that (in general) banks really only care about loan growth — that loan growth papers over all sorts of historical sins, but when that growth comes to an end, usually in a recession, the stacked skulls start tumbling out of the proverbial closet.
In contrast to the US, where the divisiveness is Democrat vs Republican, in China it looks like a battle between the CCP and the people, particularly the entrepreneurial class. When China was growing at double digit levels, that made it a no-brainer to live and work there, but after 2009, much of that ‘growth’ was supercharged by spray-and-pray credit growth which, perhaps unsurprisingly, included a lot of misguided and uneconomic projects, under the supposition that growth would bail everything out in the long run.
But as both economic and credit growth weaken, the government will probably resort to less carrot and far more stick to keep people in line — with the likely perverse effect of further catalyzing an exodus of elites (and some number of some non-elites).
“Common prosperity” is an inspired face-saving euphemism for the state appropriation of personal assets; it also sends a clear message about the limits of personal success
China outbound flows will become oriented less around FDI / capex and more around personal flight capital, which are unlikely to be tolerated in quantity
As the growth ecosystem becomes more constrained, Chinese entrepreneurs with track records are emigrating to ecosystems like Singapore (sadly the US is less attractive)
Rush for the exits: as capital (both human and financial) increasingly moves out of China, the more the CCP will make it difficult to do, creating a closing door spiral which accelerates the actions on both sides
The ‘common prosperity’ idea, ‘incentivizing’ the most successful entrepreneurs to generously donate to the government (a process which is better implemented during growth periods than recessions), is a less heavy-handed alternative to the Saudi appropriation of “corrupt wealth” in 2018, because it doesn’t assign blame to the ‘donors’ and actually gives them credit for their ‘fundamental generosity’ — except when they ‘get disappeared.’ That said, it represents a material change in the implicit bargain between the entrepreneurial class and the CCP, and highlights the fact that they can change the terms of engagement at any time.
Ongoing distractions: Ukraine and Gaza
For both of the superpowers, the immediate priority will continue to be the ongoing passive competition between the US and China over critical world infrastructure like the Taiwan semiconductor industry and a variety of supply chains, in a modern day iteration of the Graham Allison’s Thucydides Trap between Athens and Sparta, which suggests an impending war. Recent history, which sadly supports American exceptionalism, gives us two rivalries which did not result in war, because the economic collapse of #2 occurred first (USSR, Japan).
The Russia-Ukraine conflict is over a year old and looks like yet another war of attrition, where offensives are very expensive but neither side wants to settle for the status quo; the standstill has been achieved by the West coming to the passive aid of Ukraine, effectively evening the playing field but also pushing off any potential resolution (and continuing to consume resources and effort).
Sadly, the prospects for the conflict in Gaza seem to be even worse: it feels as if both sides are even more committed than before the latest friction burst into flames. The US, although conflicted, is known for its support for Israel; China is more pro-Palestinian but in a more passive manner.
The combination of thorny domestic issues, superpower jockeying, and two relatively major proxy conflicts suggests less energy and initiative to do global policing going forward.
Welcome to the new 1930s?
I’ve always been fascinated by the 1930s: perhaps it is a way of staying grounded, to read about a decade where life was pretty bad no matter where one lived. The economic boom of the 1920s led to the hope that the festering wounds of WWI would eventually dry and heal; instead when the Great Depression swept over the world, so did the waves of hatred and division.
I won’t try to shoehorn the current state of the world into an analogy of the 1930s like many authors who let their confirmatory biases select their data and anecdotes — there are plenty of differences, and reading over my summary, it’s pretty clear we’re a long way from the despair of that decade (but my point is that we might be early in the process).
I seem to remember an old political adage that “everyone tacks towards the center during prosperous times (don’t rock the boat), but extremists do well during a crisis (“throw out the bums”) or something like that — if that’s true, then recent political events suggest that there is a developing crisis because centrist parties are on a long losing streak (slightly old reference).
With centrist parties, one can generally assume that future policies will probably look like the present. The risk of far left or right parties is the future will likely look very different from the present (an current example from Argentina). Generally speaking, it is easier to tear things down than build them up — but the message of the “single root cause” (throw out the corrupt elites, bar the immigrants, for instance) is appealing to many electorates.
I chuckle when people use “populist” in its common usage as a pejorative term — what I really think they mean is “government by the people, but not including the intellectual elite” — but modern democracy isn’t a weighted voting scheme — each vote is theoretically equal, and if stupid messages appeal to the masses, then so be it, we’re not living in Plato’s Republic. Populism has been trending for a while —, Erdogan in Türkiye since 2001, Bolsonaro in Brazil (2019), Orban in Hungary since 2010, Modi in India since 2014, Duterte (2016) and Marcos (2022) in the Philippines; Trump in the US of course. Populists often change their MO (“power clarifies,” emphasizes Robert Caro) after getting supercharged by political power, and this usually rotates towards a more authoritarian cult of personality — certainly this is happening in Türkiye and Hungary. Who knows what four more years of Trump might bring?
I guess my point in bringing up the 1930s is to look at some of the parallels (while not ignoring the many differences). High levels of income inequality, coupled with potential deleveraging (or at least far lower credit growth) catalyzed this time by a global normalization of interest rates, could put greater stress on economic growth and unemployment. Global connections could create unintended side effects. The rise of far right and far left groups may be a reflection of these deep pools of latent discontent, but with the two superpowers more distracted by fighting each other, domestic battles of their own, as well as pre-existing proxy wars (Ukraine and Gaza), it might be tempting for some of the autocrats-in-populist clothing to misbehave.
Major event chronology of the 1930s
Although the immediate catalyst for the widespread malaise of the 1930s looks like the ripple effects of the Great Depression, rapid credit contraction, and deflation on critical areas like unemployment globally, the setup in each country was already volatile — and more so in the three countries that became the Axis, compared to the group that would become the Allies. In addition to the economic fallout from the Depression felt worldwide, it was far easier to question whether democratic capitalism was necessarily the “right” answer, especially given the propaganda-fueled economic ‘rise’ of the Soviet Union from 1917, and the reflationary rearmament policies adopted in autocratic Germany and Italy in the early 1930s. Liquidity policies were very different from what they are now; and then-orthodox contractionary policies probably made the Depression worse than it should have been until FDR turned the tide.
All three Axis countries used rearmament and (soft) military conquest to reflate their economies in the 1930s; once WWII ensued, this would eventually reflate all of the major powers. Japan got the ball rolling in Manchuria (1931) after the false flag Mukden Incident; Italy ‘forcibly assimilated’ Abyssinia (1935-7); and Germany the aggro amoeba ‘legally swallowed’ Austria (the Anschluss), was ‘given’ the Sudetenland (Munich Agreement, Sept 1938), before eventually attacking Poland to formally ignite WWII in 1939. Stalin was the only one who created a war against his own people, purely from his own ideology; the other countries had external factors to (partially) blame.
Italy: Mussolini comes to power in 1921 after pivoting to anti-Bolshevik (from pro-Bolshevik). He cajoles the Pope into signing a deal giving the Fascist party the blessing of the Catholic Church in 1925. The Christmas Eve Law of 1925 renders Italy a practical dictatorship; he uses propaganda to create a cult of personality, with him as the “Bene-violent” dictator. Invasion of Ethiopia 1935 as part of the spazio vitale ideology, similar to the German idea of Lebensraum.
Germany: The aftermath of WWI and enormous reparations for Germany leads to the Weimar Republic (1918-33), including its famous hyperinflation period (1920-23). Hitler’s Beer Hall Putsch occurs in 1923, but the Nazis are a fringe element as late as 1928 (1.2% of the Reichstag). The US crash collapses short term loans to Germany, unemployment skyrockets, the Nazi message and energy win votes: Hitler is named chancellor in January 1933. Dachau is constructed in March 1933. Germany leaves League of Nations in Oct 1933, starts the rearmament process. 1934: Night of the Long Knives (demise of the SA), and the death of Hindenburg (the last of the old guard). Rearmament creates reflation, the unemployment issue is over by 1936, economic momentum stands out globally.
Japan: The 1930s are characterized by the rise of nationalism, and the trending dominance of the military over the civilian government, after being snubbed repeatedly by the Western powers: Woodrow Wilson vetoes Japan’s Racial Equality Proposal at the Paris Peace Conference (1919); then again at the Washington Naval Conference (1922) and London Naval Treaty (1930). Rice prices decline 30% in 1930, silk down 50%. Aggregate export value halves between 1929-31. Premier Hamaguchi is assassinated in Nov 1930 by a right-wing extremist. Manchuria invaded 1931, military success breeds more nationalism, and helps military leaders dominate politicians (aided by a slew of assassinations). League of Blood incident: ex-Finance Minister Inoue assassinated, Feb 1932. Prime Minister Inukai assassinated May 1932 by junior Navy officers. October 1932: Lytton Commission recommends Japan return Manchuria, Japan exits the League of Nations in response. 1936: February 26th incident: Finance Minister and others assassinated in another failed coup attempt.
United Kingdom: general strike in 1926, overtones of legal revolution. The cost and wisdom of maintaining the global British empire is finally called into question. Weakness in the currency and large bullion withdrawals lead to the UK leaving the gold standard in 1931.
United States: The Gilded Age ends in late 1929; the excesses of speculative capitalism are revealed. Black Thursday is Oct 29, 1929 but the market doesn’t bottom until late 1932. One third of the working population would be unemployed by 1930. Hoover hands over to FDR, who closes the banks and takes the US off the gold standard. FDR’s (neo-socialist) New Deal gradually brings the US back, until supplying Europe in the late 1930s and the war itself reflates the economy; despite this, there is strong isolationist sentiment to not repeat the trauma of WWI.
France: both population and politicians are still shell-shocked from WWI. They start construction of the Maginot Line in 1934. The far left continue to gain supporters (Action Directe, et al), but Leon Blum and the Popular Front socialists take over in 1936, enacting the Matignon Agreements in favor of the working class.
Russia: 1930: Stalin implements collective farming and largely extinguishes the kulak class. Grain exports from Ukraine in 1931 cause widespread starvation. After wiping out the kulaks, Stalin mangles the Communist Party itself, the NKVD (3000 officers shot in 1937 alone), the Red Army. Stalin’s wife shoots herself, November 1932.
OK so the 1930s were pretty much a disaster, and life today isn’t as bad as that… but it’s early in the decade and we should probably be a little paranoid.
It’s all about cake theory
China used to discuss the cake theory of economics, which connects nicely to the income inequality issue — the question is whether it is more important to make the cake bigger (like Republicans in the US; entrepreneurs in China), or divide the cake more equally (the Democrats; the CCP). With the cakes in most countries having become quite large, especially in the low interest rate era, but with barely discernible trickle down effects, the confrontation between the struggling masses and the cake-heavy elites is at a critical juncture — the rise of populism is explained by opportunistic politicians on both the right and the left with simple populist messages who realize that on top of every cake, equally divided or not, there is still a highly privileged governing class, which, after shotgunning the elixir of power, predictably develops autocratic tendencies (Erdogan in Türkiye is prototypical).
License to misbehave: Candidates
The obvious candidates to misbehave include Russia, although it’s preoccupied with one war already, and the cast of usual suspects (Türkiye, Myanmar, Hungary et al) although so far land acquisition and outright conflict have not been part of the playbook. Although there is an argument that autocrats invariably make decisions which lead to their own demise, the sheer longevity of the leaders in Russia, China, Türkiye, Hungary and others provide reasonable counterfactuals. Since the coup in Thailand in 2014, the military junta is still in charge, for example.
But I’m more apprehensive about less expected transformations, in particular in India, where Narendra Modi, elected in 2010 on a populist platform, now has an increasingly strident pro-Hindu message (and benefited from the many faults of the opposition Congress party), and an exceptionally high popularity rating. The combination of nationalism along with recent milestones (Moon and space missions, most populous country status, world’s largest democracy, etc) suggest that India will be throwing around its elbows more in the immediate future — perhaps it’s a good thing India took the Australians for granted in the Cricket World Cup final, in a huge stadium named after Modi?
AI: It’s good to be Big Brother
I would be remiss if I did not mention that one of the most powerful uses of AI will be surveillance and monitoring of large masses, which will appeal to autocrats wanting to control their populations. Since governments have largely gained access to much of the data being created by their citizens, AI is a perfect tool to sift through those yottabytes of data to monitor any kind of definable activity. They will justify the use of these advanced tools to track criminal and terrorist activity of course, but the temptation to tweak parameters to use them on a wider set of marginal behaviors will be too strong to overcome. At the same time, they will pretend they don’t have these tools, or will downplay their use of them.
Technology enablers: Musk oxen
In that vein, the SpaceX/Starlink controversy in Ukraine is perhaps a watershed moment where a private individual wields power over enabling technology — that some of the tech billionaires, by controlling access to critical infrastructure, have become supranational in their influence. As these technologies become critical parts of the projection of power, so too will greater power go to the people who control them.
In the same way that the Internet is fundamentally anarchic, so too is the domain of space, where there is a loose collection of agreements which are rather toothless (and often unsigned). As operations in space (GPS, satellite communications) become more and more relevant to terrestrial operations, control and power of space technology will have larger implications.
Current case in point: Venezuela and Guyana
I didn’t write this issue with this event in mind, but Venezuela just passed a referendum which unsurprisingly supported annexation of resource-rich Guayana-Esequiba, an area disputed with neighboring Guyana (for context, the contested area is fully ⅔ of the land mass of Guyana). Significant offshore oil reserves were discovered in 2015. The US has come to the side of Guyana (presumably this is what Exxon-Mobil, the largest oil producer in Guyana, desires), whereas the UN has taken “no immediate action.” Interestingly, Brazil is leading the two countries to the negotiating table.
I realize this isn’t mainstream news but I wonder if this isn’t the beginning of a string of challenges to the international status quo, especially if mob psychology starts to prevail.
As a mob assembles and grows, there is a tipping point when they realize the police have a limited range and manpower, so the marginal risk of getting caught decreases rapidly the more incidents are created; overturning the first car is a big risk, but the fifth looting, especially when incidents become simultaneous, has far lower risk (and therefore a better risk/reward).
We’re not there yet, but my riot radar sensitivity is set to maximum.
Implications and things to look out for
The idea of “absent cat adaptive mouse behavior” was the primary reason for tackling this convoluted topic — this is not to say that the US and China will completely abandon their desire to project power, more that the world may become a less governable place with rising conflicts. In that vein, I would be looking out for:
Elections which bring far right or far left governments into power
The weakening of democratic institutions and backsliding, along the lines of what Erdogan has done in Türkiye
Suspension of various democratic rights (at first temporarily, then permanently)
Changes or elimination of term limits, following China, Russia, et al
False flag events (Mukden, Reichstag Fire) which ‘provoke’ strong responses
More disputed elections, with the threat of military recourse
Greater domestic repression and use of ‘laws’ to pacify or eliminate opposition or the press
More unilateral action and less talk in border disputes, including the island sovereignty conflicts in the Pacific
Increased fiddling with historical narratives around sovereignty, in order to justify annexation of adjacent territories (Crimea, Taiwan, etc), which may lead to euphemistic terms which have hints of spazio vitale and Lebensraum
Routine expressions of outrage from the UN, but with little action taken (a little like mass shootings in the US and the anti-gun lobby)
Yuval Noah Harari has pointed out that humans are the only animals that believe in collective fictions en masse. The idea of the nation-state is one of these admittedly important collective fictions, as are organized religions, sovereign currencies, the corporation, etc. Over the long march of time, the ‘equilibrium’ and borders of nation-states actually change relatively often, and the long post-war period of assumed stability feels like it might be ending — as if, after removing the parental locks, someone accidentally long pressed on an app icon on their smartphone, and now all of the icons are in wiggly mode — to be shifted, demoted, or deleted.