We met with Geopolitical Strategist Peter Zeihan for a quarterly update right before the French presidential elections. In addition to calling Macron’s win, Peter outlined the three most important geopolitical shifts for US financial advisors to watch in the coming months. In order of priority:

  • What’s next for Brexit? This is important because the UK’s moves are the most public and also the most likely to nudge talks on the European Union one way or another.
  • This fall, China will choose its future leaders. It’s time to really start watching the leadership transition in China because this will be the main driver of Xi’s policy: everything else is a subset.
  • The U.S. and President Trump: We’re all guessing at this point, and the president is involved in both of the above topics.

We’ve split the interview into two parts. Today we share part 1, our Q&A with Peter on recent developments in Europe and what’s next for Brexit and the European Union. Next week in part 2, we’ll cover China, North Korea and the United States. Recent moves by President Trump on each of these topics appear in both.

KLC: So Macron wins in France, what does it mean for Europe?

Peter Zeihan: I said about six months ago that I wasn’t worried about France. We take two big lessons from the French election so far. The center left and the center right are gone as leading lights. You still have the bureaucratic inertia, and that’s not insignificant in a statist system like France, but they don’t capture people’s imagination, and they’re probably not going to capture the presidency. With Macron, the presidency is now going to be owned by the outsiders: we’ll get a different sort of French government for at least one term. This French leadership will see the European Union as more than just a platform to project French power. Now, Macron is 39. He’s never held an elected office before. There’s so much that’s unknown, but judging from the sort of people who voted for him, the areas that voted for him, it’s really interesting. With all the nationalism and the populism that’s going on in the Western world right now, to think that it could be France that would be the one place that might push back, however temporarily, against that trend. I did not see that coming. It’s wonderful. It won’t last, but it’s wonderful.

It won’t last because France struggles with a similar set of issues that got Trump elected in the US –income inequality, immigration, loss of manufacturing –and you add on top of that this European malaise that we’ve now had since 2006. Never forget that their financial crisis actually started a year and a half before ours did in the US, and theirs is still going on. So they have had subpar, by European standards, growth now for almost half a generation. That’s got to wear on you.

KLC: Do you see the European Central Bank (ECB) using this as the backdrop to start making whispers about pulling back quantitative easing?

Peter Zeihan: They don’t have a choice. It takes a constitutional change if they’re to continue QE. The ECB can only buy a certain percentage of bonds of each country, and whenever they do QE, they have to buy bond proportionally to the economic size of the country, and the Germans are cutting their budget deficit. There isn’t enough German debt to continue QE, so QE has to end. I don’t mean to suggest that there’s nothing constructive that the ECB can do, but if you look at the real weak points in the European system, its state debt and the banks–QE no longer helps either of those. So Germany is cutting its budget deficit, which indirectly reduces fiscal stimulus for everyone. There are fewer bonds out there to be purchased. The ECB is using that as a catalyst, to throttle back on monetary stimulus.

KLC: But isn’t that a real double barrel hit for Europe? Unless their currency goes through the roof, Germany cutting back its budget deficit won’t help consumption in Europe. Won’t that exacerbate Spanish exports, Italian exports, everybody that exports to Germany?

Peter Zeihan: Well, they don’t want to stop, and I don’t blame them.The Germans aren’t worried about the trade deficit. I guess that’s one thing the Europeans have going for them. And it’s an election year in Germany, and unique among the Western world, balancing the budget in Germany is a vote winner. Remember, the German population demographically is so old that you have to do something pretty dramatic if you want them to increase consumption. And so I don’t expect much of a net change in that regard.

KLC: Your point about cutting the budget deficit is interesting, because the narrative we keep reading is everybody pounding on Germany to increase their fiscal stimulus.

Peter Zeihan: Oh, sure. People have been pounding on that since 2007, and the Germans have always said no. I’m kind of with the Germans on this one. The Germans already have the most advanced infrastructure and workforce in the world. In a country where the population is declining, fewer people are driving and taking the train, what do you want to spend it on? Fiscal stimulus in Germany won’t actually increase demand. For the world we’re in right now, their system works great. And spending money just to spend money is not something that’s an easy sell in Berlin.
KLC:Sticking with Germany, what are your thoughts on their upcoming elections this fall?

Peter Zeihan: Merkel wins it unless something dramatic happens, and even anything that would be dramatic, like in the law and order realm, would help her, not hurt her. I think the worst-case scenario right now is if they were to have a significant terror attack, and you got some support going to the Alternative for Germany party (AFD is a right-wing populist party advocating for the abolition of the EU). If the AFD get enough support to be a meaningful block in the Bundestag, that could give them a meaningful voice in the central government. That could scare a lot of people in Europe. Because some of these people think that the problem that the Nazis had is that they didn’t go far enough. Then the rest are unrepentant East German communists, I mean, these are not nice people. The threshold is 5 percent. Right now they’re polling about 9 percent, so we might have six parties in the next parliament.

KLC: What is the political calculus for Germany right now, as it relates to the rest of Europe?

Peter Zeihan:So long as Merkel is able to form the next government, and that’s kind of in the bag from my point of view, Germany will continue to be the adult in the room, and that’s something Europe desperately needs right now. That’s good for Europe, and so far the Populists are not strong enough. It would be very stable from a diplomatic point view within Europe, and between Europe and the United States, because then Merkel only has to have conversations with three people when making decisions as opposed to bringing in the party congresses. As relates to the rest of Europe, Merkel will want to tighten the

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