Geopolitical Roundtable With Peter Zeihan
The best-selling author discusses the coming global disorder and its impacts on China, Russia, ISIS, terrorism, reshoring, cyber warfare and the shale revolution
Last week in Manhattan, we hosted a small group lunch discussion with a handful of financial advisors and a favorite research advisor to our own work, Geopolitical Strategist Peter Zeihan, author of the best-selling book, The Accidental Superpower, The Next Generation of American Preeminence and the Coming Global Disorder. The goal was to engage in a deep conversation about major events happening the world and how they may affect our industry, while providing an opportunity for clients to ask questions on their minds.
In the book, Peter tells the story of the world’s leaders coming together in Bretton Woods, New Hampshire, at the close of World War II to establish a new world order whereby the United States would serve as the military protector of the world’s sea lanes, therefore enabling a new generation of global trade. The book describes United States’ more recent retreat from this role as global protector, and the resulting effects making waves around the world. Peter kicked off the discussion by describing the single biggest trend in the world today, populism, and why we’re seeing the United States move to an anti-trade stance by both the Democrats and the Republicans, France to an anti-immigrant stance, Turkey emerging as a major power and beginning to invade its neighbors, China laying the groundwork for a Maoist political system that is walled off from the world, and Russia entering a demographic twilight that is prompting Putin to replace the entire ruling cadre with young, nationalist loyalists.
The discussion that followed ranged from where to invest in the coming global disorder to cyber warfare, China, Russia, ISIS, reshoring, terrorism and the shale revolution. In response to the positive feedback we received from those who read our last Q&A series with Peter, we have summarized the major questions below. Thanks to Peter for allowing us to share his answers with our followers.
Q&A With Peter Zeihan
Q: If the United States goes to war, can we stabilize it?
Peter Zeihan: There’s no way the United States can walk out of the trade system and there not be a hell of a shakeout, because nobody has the ability to guarantee global sea lanes. Most countries don’t have the ability to guarantee their own defense. The problem that a country like China has is its end users aren’t local.
Q: How can the United States just simply step back from global trade? Do you need Congress’ approval?
Peter Zeihan: No. When it comes to enforcing international sea lanes that’s not an act of Congress. That’s a force disposition issue, and we’ve been steadily paring back our deployments for years. Look at what happened in the Persian Gulf last year. We only had a carrier there for five months. For the previous 40 years we’ve had one there for 12 months out of the year.
Q: If we step back from international trade, it would take quite a bit to build up our manufacturing infrastructure again. Then we’d also have rising prices again, right?
Peter Zeihan: You would definitely have an inflationary pulse, which the monetary authorities would love right now. It doesn’t take a huge amount of time to build that kind of infrastructure, particularly when you consider it doesn’t all necessarily have to be in the United States. There are other countries that we have friendly relations with that aren’t going to be nearly as disrupted –Southeast Asia is a potential partner, Mexico. Canada has a huge amount of spare capacity right now.
Q: Given where we are with our debt situation in the United States, how much room is there for a fiscal expansion?
Peter Zeihan: The federal debt issue is a political issue, it’s not a financial one. There’s enough spare capital in the world that is running scared that we can absorb every bit of it. Even if there wasn’t, there is no competitor to the U.S. dollar, so the Federal Reserve can step in if it has to. I don’t see that as an economic restriction. I also don’t see the federal approach as being the way that it is going to go. I would look at a lot of by-state issues. For example, between Indiana and Kentucky. You’ve got governors and legislatures from different parties that have nonetheless been able to put together the largest public works program that the country has seen in the last decade with this bridge system across the Ohio. It’s working, and a lot of the money is not local, it’s foreign. It’s just a question of finding a way to mate up a capital source with local needs. When it comes to overseeing infrastructure development, it has rarely been federal. Even with the interstate system, the construction firms are all local and managed by the states. We’re going to see 50 different experiments in how to do this, and some states have got a leg up on this. Alabama looks phenomenal. The number one state in the country for per capita FDI is Alabama. They get their city council together, and they go to Germany or Korea and they basically make a pitch. So Hyundai, Volkswagen and Daewoo –they’re all there.
Q: What do you think about money pouring into infrastructure in this country?
Peter Zeihan: It’s a good idea. I speak to a lot of community development boards. I see relatively inexpensive energy, relatively strong consumer growth because of the Millennial Generation, borrowing costs at rock bottom lows between the combination of the boomers preparing for retirement trying to get that last 1 percent so there’s a lot of capital is still out there, and then the capital flight that’s coming in. So if you’re looking to borrow money for long-term purposes, now is a great time to do it.
Some of the boards that I work with are in the process of developing financial products to tap the capital flight. Because what the foreigners want is a physical asset that will hold its value. If it pays a dividend, that’s fantastic, and if it’s backed by a government, ever better. Treasury bills are the number one best destination right now, residential property, primarily condos in the gateway cities are number two, and shale bonds are number three. They’re backed by a hard asset, and they’ve got a dividend. Just keep in mind that this is dumb, stupid money for the most part. If they get 50 percent on the dollar 10 years from now, they’re thrilled because that means they got it out of the country.
Q: This view of the United States retreating from its role on the global stage, is it fairly recent or have you been evolving it for some time?
Peter Zeihan: It’s constantly evolving. I worked for a global intelligence company called Stratforfor 12 years. It was my job to synthesize everything that was coming in to a global network, and that is the genesis for these ideas. The book came out two years ago. A lot of the energy piece has evolved since then.
Q: Can you explain what the Federal Reserve Chairwoman of Russia –Elvira Nabiullina–just turned down, was that just a smokescreen?
Peter Zeihan: She is a very bright cookie. She knows what she is doing, and she is working in an incredibly difficult environment. Russia has gone through a series of power struggles since Putin came in where factions fall in and out of favor. She is the only member of the westernizing group that’s left. It’s a testament to how much Putin trusts her that she is still there. And every time Putin overrules her, bad things happen to Russian finances. So he’s learned his lesson. Whether he’ll continue to do what she recommends is a whole other issue, but when it comes to macroeconomic financial stability, when its monetary policy, he has not challenged her in over a year now. She’s one of the few independent poles but she has absolutely no political voice. The Russian financial system is basically a tool of the clans, and so the banks are directed to invest based on what the political or economic desires of what the various clan chiefs happen to be. Igor Sechinis a big one. Rosneft, the largest Russian company is run by the same person who also runs military intelligence. He wanted Nabiullinato take currency reserves and throw them at Rosneftso that Rosneftcould continue to expand. He was starting to threaten her life and Putin put a stop to it. There are not a lot of people who can go to Putin for physical protection from someone like him.
Q: Is Russia supporting Syria so as not to destabilize Europe?
Peter Zeihan: As of last August that was the case. The war had been grinding on for three years. You had the government controlling Damascus specifically as well as the outskirts. The resistance controlled Aleppo as well as a pocket in the south. Because of the natural barriers within that belt of territory, they really couldn’t get at each other. There’s a 60-mile desert gap between Damascus and the rest of the country, and it was just really hard for them to move through there in a sustained way without stretching a lot of logistics. So for the last two years, the fronts hadn’t moved. Then ISIS forms up, boils out of Iraq and takes over the Eastern parts of the country in the Euphrates zone. ISIS doesn’t have tanks. ISIS has trucks for the most part. It is highly mobile but not lethal in a traditional military sense.
What Russia did by coming in and freeing up the front lines in the west in that urban corridor, was to make it a war of movement, which allowed ISIS to play. So ISIS was able to penetrate into the core and put its own degree of civic management in farming areas just like it had in Euphrates. Now we’ve got food shortages, electrical shortages, and logistical distribution problems for every type of good you can imagine. This generates refugees. Would the Russians like Assad to be large and in charge? Sure, but that’s not the primary goal. They’re in the war for completely different reasons, and they’re perfectly willing to hang out Assad to dry militarily, tactically, strategically, politically, whenever it serves their interests. They’ve already doneit a half a dozen times.
Q: Is there any way to defeat ISIS?
Peter Zeihan: Yes and no. This area of Eastern Syria/Western Iraq has always looked messy. Usually what happens is you’ll have a major power in Damascus, a major power in Anatolia and a major power in Mesopotamia, and whenever this area gets too unruly, they’ll send in an army, burn everything to the ground and go home. Turkey is 90 years out of practice, but they’re starting to get back into it. Mesopotamia is in civil war. Syria is in civil war. So this area has been able to get louder than it historically has been. Usually whoever controls this area doesn’t control it. They don’t even bother patrolling it. It’s not worth the effort. The Euphrates Valley at its widest point is only six miles. It’s not cost effective for them to put a lot of effort into it. So they just let it boil until it gets too loud, and then they go in and destroy everything and then go home. Then do it again in another 10 or 20 years. ISIS has no future, but this area is going to continue to cause groups like ISIS to pop up.
Q: How will disruptive technologies impact this new world order, say over the next 10 years?
Peter Zeihan: In terms of disruptive technologies, shale is far and away number one, simply due to the geopolitical implications of having a shale revolution in only one country because no one else has the labor or capital structure necessary to repeat it in the next 20 years. Drone technology is very big from a military point of view. The idea that you can have a lethal drone that you can carry in your hands. That will overhaul how the United States fights its wars. We’re already moving from a ground army to a Special Forces military command as being our primary means of interacting with the rest of the world. Drones will kick that shift into high gear. Within two years we’re going to have drones that can loiter over an area for a month and fire dozens of pieces of ordnance. This one drone gives you the eye in the sky and it can carry out its own kills. That’s armed distance war fighting. Now that’s not going to tear down a country but it’s great for an assassination campaign. Artificial intelligence, even assuming the most aggressive timeline, isn’t going to do much more than give a little more kick to existing IT technologies over that timeframe. Aside from making trades faster and logistics management more smooth, it’s not going to have a big impact.
Q: How will something like the autonomous car impact jobs for drivers as the number one job occupation for men in the United States?
Peter Zeihan: This is the idea of replacing large swaths of the workforce all at once. We’ve gone through technological changes like this before and obliterated large percentages of jobs over a relatively short period of time. With automation the chances are that it’s going to be compressed. That’s more a social economics problem in my opinion. There was a referendum on the ballot in Switzerland this year, to just give everyone in Switzerland $50,000 a year for being Swiss. Post-modern economic structure. What do you do when half of the population is productive enough to support the other half? To a degree we’re already there. Half of the American population has a net tax bill that’s negative, so I don’t necessarily see this as something that’s negative. I don’t think it’s going to happen in the next decade because of the reindustrialization process that’s already happening as a lot of manufacturing is reshoring. We’ve had 1.2 million jobs reshorein the last six years. Because the United States is the only real market, and as trade breaks down, I see that process really accelerating. Specifically once the Chinese start to have problems being the workshop of the world, it is going to generate a lot more manufacturing positions in this country. But in the mid-to-long-term, absolutely.
Q: In the shorter term, say 5-7 years are we going to lose a lot of manufacturing jobs to robotics?
Peter Zeihan: At the same time that a huge portion of the productive capacity comes back, the question is whether it’s going to be wash or not. I don’t know. If you’ve got the market here, if you’ve got the labor surplus here, if you’ve got Mexico, you’ve got the consumption base here, there’s not as much pressure to move up the value added scale, because you can do more with the lower cost processes. So I think it’s going to be a bit of a wash, at least at first, not in the long run.
Q: What are the questions your corporate clients are asking right now? Is there a theme?
Peter Zeihan: They’re primarily concerned with the stability and sanctity of supply chains. That is the question in manufacturing these days, and they look at what is happening around the world and figuring how can they reduce their exposure to risk and increase their exposure to places that are stable and cost effective. I have yet to have a have a presentation with a manufacturing group in the last three years that is not doing a heavy amount of reshoring.
Q: How is that compatible with a stronger dollar?
Peter Zeihan: In a globalized system with a strong dollar, they are definitely at odds. In a deglobalizingsystem there’s only one market to be in. That’s Brazil’s fear –production is sold in U.S. dollars, and a lot of the inputs are in local currency –but they still have to be able to get it to market. So timing is really important, based on the sector that you’re in.
Q: How do you see cyber warfare playing into future wars?
Peter Zeihan: From a private company point of view –especially banking and finance –it’s a disaster, and it’s not going to get any better because the U.S. government’s policy is not to provide cyber defense to companies. There are too many openings and exposures, so there’s no way they could possibly do it. If they did, they’d have to pick favorites, and that would go down horribly politically from day one.
From an offensive point of view however, the picture is very different. There aren’t a lot of hackers in prison because the NSA hires them all. We have more offensive hacking capability than the rest of the planet put together. We just don’t use it, unless we are really, really serious about it. If there is a war with another country –I don’t think there is going to be one, but let’s assume the Chinese go off the reservation and attack the United States –the first quarter will be horrible, because the Chinese cyber offensive capabilities are impressive. But then the Chinese will never have electricity again. The United States has the capability of shutting down any cyber system in the world permanently. We just aren’t going to do that unless we really need to.
Q: Do all the other actors in the world understand that?
Peter Zeihan: Yes.
Q: Aren’t we really vulnerable at our electrical substations?
Peter Zeihan: Do you remember when the lights went out in New York in 2003? That started at a substation in Canada. That’s been fixed. I don’t mean to suggest that we’re 100 percent inured, but there’s so much redundancy and insulation now at the various substations that we can’t have a widespread cascading failure like that. If it is something you’re still worried about, move to Texas. Texas is on its own grid.
Q: Every week, every month we hear more about cyber warfare. Could the Russians or the Chinese ever shut down the New York Stock Exchange?
Peter Zeihan: If they really wanted to cause that level of damage, I have no doubt that they could. The question is why provoke the United States in that way? Because the last thing you want is the United States willing to go to war against you, when you’re dependent on the system that the Americans maintain. We can shut down China without getting within sight of China’s shores. We can shut down China from off the tip of India –we just interrupt the energy imports. We don’t have to fire a shot. They know that. The Russians are willing to push further because they’re less invested in the system, but if they took down the stock exchange, the American reaction would be crushing.
Q: Do you think these lone terrorism events we’ve been seeing are going to become more widespread?
Peter Zeihan: Terrorism is going to become a lot more common around the world, but it’s more a tool of local militancy. It’s becoming harder and harder to cross international boundaries, and once trade breaks down, things like a transatlantic flight aren’t going to be nearly as common. You’ll always have the copycats, like we had here in New York last week, like we had in San Bernardino. Those aren’t organized by anyone elsewhere, they are just mentally disturbed people who are drawing inspiration. I see no reason for that to stop but that’s not new. The only thing that is new is people are putting ISIS on the bumper sticker rather than white supremacist. We’ve had those for 60 years. It’s louder now, but it’s not actually killing more people. Should we have a conversation in this country about the intersection of firearms and explosives and religion and mental instability? Yes.
Q: What’s next in China for those of us in the financial industry?
Peter Zeihan: The Chinese system was designed specifically to function in the Bretton Woods system. In order to maintain regional stability of the Chinese system, you have to find a way to get the militarists in the north and the traders in the center and the industrialists and the foreign sympathizers in the south all on the same page. The way that the Chinese do that is they bribe everybody. They follow a little bit of what the Japanese do: they put all the private savings into a big pot, and they divvy it up via the state banks in order to employ everyone. If they happen to get products out of this, that’s great. That’s not the goal: mass employment is the goal. They want to prevent people from being upset and protesting. Keep them occupied. Just like in Japan eventually you reach a point of diminishing returns and eventually you use up all available capital. So they are now printing at something like 20 times the rate of quantitative easing there that we have here in the United States during the peak, and they’ve now been doing that for eight years. The Chinese money supply is roughly double the American money supply despite the fact that ours is the global currency and the global store of value, and 99 percent of the Yuan is all held in the mainland.
China is the most over-financed, over-capitalized system in history. We’ve now reached the point where the lending is about the same as an Obama stimulus package every 18 days. They know they have exhausted this measure, but they also know if they dial it back this whole system comes crashing down so all they can do is keep eating more credit. They tried to do a Go West campaign and industrialize the interior but with the exception of the Yangtze River basin there’s no internal area that you can actually develop. The northern plain where most people live has no natural transport artery so they built artificial infrastructure and an industrial base. They trained a labor force that wasn’t skilled, and then the challenge was to get all the product out to the wider world again, so it has been another white elephant project for them.
They tried to create a housing market, but you do that with a bottomless supply of capital and you get ghost cities that supposedly can house 100,000,000 people now. It doesn’t mean that there isn’t property people want. You can sell a 400 square foot Shanghai flat for $6 million now and become a millionaire overnight. But these people don’t know how to deal with that money. They buy cars they can’t drive. They invest in in the stock market: at the peak last year 80 percent of investment volume in the Chinese stock exchanges was retail investment. The only thing we have here that’s like that is Kickstarter. They’re running out of options, and if the United States is the one to pull the plug, that would kill it overnight but China has a number of problems at home that are all building toward collapse anyway. President Xi’s backup plan is to consolidate as much power into his person as possible and execute enough people that folks don’t like on live television so that the average person looks up at Xi on television says it doesn’t matter if I can feed my family or whether I have a job. I’m Chinese, he’s my leader and that’s enough. Xi has already consolidated more power under his person than any Chinese leader in history except Mao himself, and at the rate he’s going, he’s going to surpass Mao sometime next year. We’re that close. China is preparing to wall itself off if it needs to. If they have to choose between a united China under a poor but dictatorial regime or an open China that starts to break apart, they’ll go with the closed system any day.
Q: Are all these reasons you’ve given why China is starting to leak capital and manifest itself in a depreciating currency?
Peter Zeihan: I wouldn’t call China’s a depreciating currency because it’s for all intents and purposes pegged. Every day they decide what the peg is going to be. I see depreciation as one of their possible tools in the future. They’re running into a competitiveness problem. Labor costs have increased by a factor of 12 in 15 years. Currency is one of the ways they can tweak that, especially when it’s a closed system. They can only go so far before they trigger a currency war with the Japanese and the Koreans and everybody else.
Q: So is China’s Silk Road project a red herring?
Peter Zeihan: It’s not economically viable but it is political, so I have no doubt that they are going to continue doing it. It’s an employment issue for the Chinese. It’s a way of exporting influence. It’s a way of attempting to lash some of the smaller south Asian countries to China. Just don’t think of it in cost competitive terms.
Q: How do you see the valuation of commodities in general, Vis a vis the China story and global growth?
Peter Zeihan: If we have the war that I am expecting, I expect demand for a lot of those commodities to drop precipitously very quickly as countries deindustrialize. Northeast Asia will probably be hit the hardest from a demand point of view. From a supply point of view South America will probably be hit the hardest. Australia and Southeast Asia will develop a nice little bilateral relationship that is very self-supporting. It really depends on the commodity. Resources like aluminum are sufficiently diverse. Bauxite is in enough places that are not under threat. Iron ore as well. I expect there to be shortages. Steel is in a complete glut but that glut is coming from places that are going to have the most problems. Five out of the top six steel producers now –Japan, Korea, Russia, Ukraine, China –are places it will break down. Then we’ll have a glut of iron ore. We’re probably going to see a flip in some of these relationships as the commodities are going to get easier to find, but the finished products not so much. Any place they can build out the industrial base where the energy is available –North America –looks pretty good. Smelting is coming back.
Q: What do you think about India?
Peter Zeihan: India’s messy. India is a substantial net energy importer but they’re the first stop out of the Persian Gulf, so if anyone can get what they need it’s going to be India. They are a member of Bretton Woods, but not an enthusiastic member. They never went through this big industrializing impulse the way that everybody else did from the 50s to the 2010s. So if Bretton Woods suddenly vanishes tomorrow, they’ll get hit like everybody else, but not nearly as deeply and not nearly as long. India’s problem is always going to be internal. The Ganges River is the most agriculturally productive zone in the world on a calories per acre per year basis, so that gives you huge population growth, but the Ganges isn’t navigable, so you’ve got per capita capital availability that’s worse than sub-Saharan Africa. The result is lots of people, but never any advancement in economic development. It also makes it very static.
You can change the international system, and India will still be India. If you’re happy with India where it is right now, it is not going to change no matter what happens in the wider world. But if you think India’s about to turn the corner, I am sorry, India has looked like this for 1,500 years.
Q: How do you put the coming global disorder into context for investors?
Peter Zeihan: I’m not a money manager, but geopolitically, I look at two specific categories. First, I look at consumables in the United States, because we have positive demographic growth and relatively stable finances. So anyone who is consuming, in the long run looks good to me. Second, I look at anything in the United States that is energy consumption-based, not production based. So mid-stream, down-stream, things that use a lot of electricity, natural gas or oil. That includes everything from cosmetics to tire manufacturers to chemicals. Because the inputs of the shale revolution are so low, all that natural gas that is coming out of the shale fields is going to keep natural gas prices below $4 or $5 for at least another decade.
Internationally, it is about matching up the geopolitical risk to nearby economic possibility. Look for countries where the security is locally managed, where the local resources are available and demographic growth is strong. We might expect to see some re-industrialization in places like France and Argentina over the mid-to-long term. Whether or not you want to take a risk in the legal environment is another question. Southeast Asia, also looks great. For the most part, especially the further south you go, the less they are going to be affected by the tanker war and the more they are self-sufficient in energy, and the closer they are to Australia which is providing them with financial economic and security assistance. These are places that geopolitically look really good moving forward.
If you’re interested in joining our next salon lunch with Peter in San Francisco, please email us at email@example.com request an invitation. Planning for additional lunch discussions in additional cities is currently underway, and we may be open to visiting your city by request.
See the full PDF below.