It goes without saying that the United States is systemically important. Its assets – the dollar and US Treasuries – are regarded as safe havens. Its credit markets dominate the world and its central bank in effect provides global liquidity. And crucially for investors, US equities have been on a tear for a decade, and usually amount to between 50 and 60% of total global developed world stock market value.
What happens if the US loses its global hegemonic role, even temporarily? Will the system become fundamentally unstable? And how can non-US investors even contemplate building a hedge to this awful eventuality?
Obviously at the moment there’s a huge amount of noise surrounding the US elections and the obvious partisanship on display. Trump clearly makes a difficult set of circumstances much worse and the liberal intelligentsia is in full panic mode as it ponders the possibility of a second Trump term.
But this isn’t the challenge I’m talking about. Sure, it contributes to the nightmare scenarios that are kicking around by weakening the countries resolve and unity. The open discord and acrimony is also acutely obvious to external observers, not least in Moscow and Beijing. But what worries me are the knowable unknowns. In no order of importance, I would suggest the four following scenarios:
- US Civil war. The bitterness between voters escalates and armed folks – Antifa and various nutjob right wing militias – overstep the mark. Or maybe there is a genuine showdown between states which results in federal paralysis.
- A military attack of some sort ranging between say an EMP attack on critical infrastructure through to all out military confrontation which tips into a nuclear strike of some sort
- An economic meltdown possibly prompted by a US T bonds buyers strike and a dollar run which turns into a stagflationary nightmare as interest rates rise and US public debt increases exponentially (although I suppose the Modern Monetary types would argue that the US Fed could simply print its way out of this nightmare)
- Autocracy and the breakdown of democratic order tips into an authoritarian response to criticism which could escalate into the first scenario – California says fuck it, its off.
In all these scenarios looms a clear and present danger. China. I can understand how containment and then growing economic separation between the US and China could be manageable. But my sense is that the Chinese are seriously concerned that the US is pushing a regime change formulation and that we are evolving into a zero-sum game.
Crucially I think the Chinese might view some form of pre-emptive gesture as a way of undermining US hegemony and putting the US on notice that it isn’t the only big kid on the block. The key new variable here is technological edge. I cannot emphasise enough that although the USSR had some great military and space technology (and Russia still has that), it was a never a patch on the US and the West. The US was always, at a systemic level, miles ahead. China is currently far behind in some areas but it is moving fast and I cannot emphasise enough the very considerable danger of China building a sustainable advantage around AI, data mining and big data. This stuff really, really matters, and has a dual use – it can sustain techno-economic advantage and also input into a military industrial complex. The temptation to use that advantage pre-emptively will grow exponentially over the next few decades.
Which then introduces another key consideration which differentiates the old Cold War from the New Cold War. If the USSR had turned up the heat and gone for a hot war, we in Europe were on the front line. Our skin was quite literally in the superpower game.
Now, it isn’t. The Chinese, from what I can surmise, have no great territorial ambitions beyond the South China sea and bits of the Himalaya’s. They don’t seem keen to occupy whole countries – Taiwan excepted – and would probably be very happy for Asia to return to its old hegemonic middle kingdom system where nearby states paid tribute to the rulers of China but were largely left alone, whilst also infusing Chinese culture. None of that arguably has much to do with us.
China by contrast has every imperative to knock US influence out of Asia. That means in simple terms an attack on the US might not be an attack on all the rest of the Western alliance bar perhaps Australia.
Until recently I imagined that the scenarios I have outlined above were very, very marginal and hugely unlikely.
Now, I’m not so sure. America’s own fissures and acrimony has weakened the superpower from within and dangerous observers are eyeing up the US’ weaknesses. And if they can make them worse, all the better.
I also have my real doubts that the US can find the resolve to fight such a threat. Sure the US responded aggressively to 9/11 but those actions have now exhausted much domestic patience and although a direct attack on the country could provide unity, I’m not entirely sure that will be the case in the next few decades. Remember, new historical evidence suggests that Rome didn’t fall because the Goths and Alaric invaded, rather it collapsed from within, and Alaric and his chums simply helped push it over the finishing line.
So, I think investors need to think long and hard about their worst-case scenarios and upgrade the risk of US national failure. I still think it’s a very low probability – and I sincerely hope it does NOT happen – but it’s not completely unlikely anymore. US hegemonic power could be at a turning point.
All this blue-sky thinking requires investors to think at a multi-dimensional level around risk and safety. It means reinvigorating a geographical diversification strategy, with all those complications i.e how do you really diversify when so much of the world economy is dependent on US consumers, the Fed and US dollar flows? It also means thinking through what constitutes a safe haven asset – gold obviously has a role (despite all those reserves in Texas?) but also crypto might make a sudden re-emergence.
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