Neo-Mercantilism, Neo-Modernism or Neo-Imperialism?

5 october 2017

What Should Russia Do?

Alexander Losev is a Member of the Presidium of the Russian Council on Foreign and Defense Policy, CEO of Sputnik Asset Management.

Resume: American-style globalization is being replaced not with its Asian variety, but a very harsh geopolitical reaction to protectionism as an antagonist of globalization.

Globalization is a years-long transformation of national economies and political relations among countries into an integral geo-economy. Its concept is tightly linked with the idea of world hegemony, which creates a geopolitical supra-structure over the global economic basis it controls. Any transformation of hegemony by virtue of internal reasons or external challenges entails changes in the geo-economic space.

Globalization the American way has reached a natural limit for a number of reasons. The modern world economy is concentrated in three main mega-regions: North America, Greater Europe (the EU plus the area of the former Soviet Union), and Southeast Asia. Whereas just ten years ago the United States and the European Union were the indisputable leaders by their share in the global GDP (54%), now the East-Asian megaregion is already ahead of each of the remaining leaders by $1.5 trillion in terms of the nominal gross domestic product, with its share in the global GDP standing at 29%, while the EU and the United States jointly account for 46%. China’s nominal GDP has grown from $3.5 trillion in 2007 to $11 trillion in 2016.

In other words, the East Asian region, and particularly the “world factory” China, in 2016 became a new beneficiary of globalization, while the United States suddenly realized that the current geo-economic processes, should they continue, will weaken its hegemony.

In fact, globalization the American style and the dominance of the neo-liberal doctrine are giving way to what can be described as neo-mercantilism, protectionism, neo-modernism and, possibly, some other generalizing term yet to be coined. In the geopolitical dimension, this may bring about the comeback of half-forgotten conservative neo-imperialism or take unconventional, hybrid forms of rivalry for economic and eventually political domination in the world.

If individual parts of the still united world economic system begin to isolate themselves in conformity with the protectionist policies of national governments or industrial groups, then in a situation where the world economy is off balance the “entropy” will grow in accordance with the second law of thermodynamics.

China is one of the most important contenders for the right to spearhead Globalization 2.0, and, possibly to become a new world hegemon. At this point it would be appropriate to quote Sun Tzu’s Art of War: “Disorder came from order, fear came from courage, weakness came from strength. […] Order or disorder depends on organization, courage and cowardice on circumstances; strength and weakness on dispositions.”

In the newly started geo-economic processes these three components of the “the state’s great cause”—quantity, strength (military-political and economic) and form—will determine the result.

The ongoing geopolitical changes are fraught with uncertainty, and it would be logical to suspect that the world will feel the need to get back to the well-tested system of coordinates, in other words to restore respect for the “good old” rules of international law, which in recent years began to be phased out by the doctrines of neo-liberalism and neo-conservatism and the imposed “legitimacy” of the hegemon. The latter combined intervention in the internal affairs of other states with double foreign policy standards and the practice of patronizing the interests of transnational corporations.

American-style globalization is being replaced not with its Asian variety, but a very harsh geopolitical reaction to protectionism as an antagonist of globalization. Before reviewing possible scenarios of de-globalization and the era of new mercantilism and economic dirigisme, which is bound to set in for some time, it is worth analyzing the recent history of globalization and making some practical conclusions.

TOWARDS SUCCESS AND BACK

Interstate political and macroeconomic processes of the past twenty-five years followed the rules established by the current hegemon—the United States. With reliance on its gross military, political and economic superiority over the other powers and its dominance in global finance and technological standards, the United States shaped the current world economic order.

On one side of the scale there are free competition, open markets, elimination of barriers hindering the movement of goods and capital, and principles of democracy and social justice. On the other, the maximum control of the world geo-economic and information space by transnational corporations and supra-governmental institutions, a system of global distribution of resources, factors of production, added value and profit centers, concentration of cutting-edge technologies in the hands of U.S. companies, their penetration into the consumer markets around the world, trade alliances of unequal partners, new barriers and sanctions, control of the global financial system and also harsh interventionism by the United States, sometimes disguised as protection of democracy and the observance of human rights.

The world seldom questioned U.S. hegemony (exceptions were rare) but accepted its rules of the game and the system of the global division of labor. It agreed to truncated national sovereignty in favor of U.S.-controlled international organizations and institutions, such as the IMF, the World Bank, the WTO and the trans-nationalization of financial markets, accepted the role of the U.S. Federal Reserve as the center of emission of the world reserve currency—the dollar, the rules of international trade, and uneven distribution of incomes.

It was globalization that brought about fast economic growth and accelerated technological development in most regions. The periphery of the geo-economic space was integrated into the global economy with its international system of division of labor and distribution of financial resources and raw materials in accordance with the “free market” principles and liberal democratic values. Fundamentally new industrial and trading relations began to emerge among countries standing on different levels of economic development. The industrialized countries entered a “post-industrial era” and their real economy became tightly intertwined with the digital one.

Soaring incomes from export and hundreds of millions of jobs created by the trade boom enabled the developing countries to feel the benefits of globalization and served as a strong economic argument against disputing the “legitimacy” of the established world order.

The United States was the main beneficiary just as the hegemon should be. In one of its publications in December 2016 the IMF said that continued expansion of international trade over many decades was increasing the United States’ national income by $1 trillion a year.

The struggle of the largest corporations, primarily American ones, for effectiveness and a larger market share resulted in their greater industrial activity outside the country, the proliferation of advanced technologies and massive creation of advanced production facilities in the developing economies with their cheap labor resources. Manufacturing industries and environmentally hazardous operations were moved there on a large scale.

From 1990 to 2008, the share of the developing countries in world trade surged up from 23% to 37%, while international trade soared from $7.1 trillion dollars to $32.6 trillion a year. Its annual growth averaged 8%, outpacing the world GDP growth rate nearly 2.5 times.

The world agreed to the global distribution of labor and profits. It got used to paying with dollars and gambling on foreign exchanges according to the rules established by U.S. regulators, international rating agencies and Anglo-Saxon law. It seemed that the end of history as defined by Francis Fukuyama or Thomas Aquinas was just a few steps away and it would only be necessary to finalize the creation of a global market, establish an absolute freedom of trade and completely trans-nationalize the financial sphere.

But the world economic system that took so many years to build suddenly manifested a major weakness. The so-called financialization turned out to be the root cause of all problems. The steady and planned process of converting real commodity markets into financial ones, where the prices of raw materials, manufactures and farm produce are determined not only and not so much by the balance of supply and demand as by the value and supply of cash and by the relative strength or weakness of the individual countries’ currencies against the U.S. dollar. Commodity assets were being increasingly turned into financial instruments, while investment grew dependent on the directions of capital flows.

The hegemon found that quite suitable, as it could control both investment flows and world trade simultaneously. In the process of financialization the structure and principles of international trade undergo transformation. There emerge derivatives with their own rules and risks. Players which are in no way connected with the production and consumption of goods and raw materials take the commanding positions. And the banking system they control is ready to provide them with financial overleverage or, on the contrary, to reduce financing.

But at a time when borrowed funds exceed one’s own manifold, the picture of supply and demand begins to be distorted by financial profiteers and the prices of most goods (as well as people’s living standards in the developing countries) become dependent on temporary trends and volatility of the global finance markets. The distribution of cash and capital flows in the world now largely depends on the dollar’s behavior and the U.S. monetary cycles. It is financialization that makes practically all markets dependent on fluctuations of the U.S. Federal Reserve’s monetary policies or the condition of the U.S. economy, thus affecting the amount of goods and services produced in the rest of the world. Quite often, in a bid to compensate for capital flight caused by the U.S. Federal Reserve’s policies or to adjust the balance of trade and payments, China and a number of other U.S. trading partners responded by devaluing their national currencies (currency wars), launching stimulating counter-measures, or resorting to dumping policies.

The process of de-globalization, which is now more than obvious, did not begin with Donald Trump’s election, but started much earlier with the outbreak of the world crisis in 2008. In the periods of financial crises, the tides of capital are reversed, production shrinks, trade slumps and, consequently, the level of globalization goes sharply down. Moreover, globalization itself exacerbates the crisis and the negative effects for the entire world economy.

According to the World Bank, in 2008 world trade climbed to an all-time record of 61% of the world GDP only to slump to 52.6% in the subsequent years. In 2007 the trans-border flows of capital were at the maximum level of 21% of the world GDP, but in 2008 they instantly plummeted to 4% and has remained within a range 5%-6% ever since. The growth of foreign investments in the developing economies has slowed down drastically over years to just 3% in 2016. The world has not coped with the effects of the 2008 world crisis to this day and leading participants in the global economic process have since been looking for alternatives.

The growing rates of debt—both public and national—pose major risks to the world economy, too. According to the IMF, in 2016 the public debt to the GDP ratio in the United States was 104%; in Japan, 229%; in the EU in general, 85%; while in China, merely 44%. If the debt burden in the advanced economies is not reduced to an acceptable level, the economic growth will slow down further.

Financial capital flight makes countries take countermeasures, while compression of international trade fuels competition among producers and pushes them towards protectionism.

The United States proposed its own anti-crisis measures—the so-called Washington Consensus, which requires minimization of the budget deficit, still greater liberalization of financial markets and deregulation of the economy. The countries that agreed to these terms plunged their economies into prolonged stagnation. Those countries which refrained from following IMF and World Bank recommendations and opted for economic integration in combination with retaining the greatest degree of sovereignty possible are now world economic growth frontrunners.

Conclusion One. In the big game, the advantage goes to the one who is not afraid of breaking the rules and consistently presses for one’s own interests. It might seem that the developing countries, such as BRICS, were to sustain the greatest losses from the 2008 crisis. But anyone who takes the trouble to study World Bank reviews of the world GDP rates for 2007-2015 closely enough will see a totally different picture. Since the 2008 crisis the Asia-Pacific region has caught up with the economic potential of North America and the Old World (including the EU, Russia, Turkey, and the Middle East). The European Union has suffered more losses from the years-long economic turmoil than any other party. North America’s GDP in 2007-2015 was up to $19.5 trillion from $15.1 trillion, while the GDP of Southeast Asia and the neighboring countries nearly doubled from $11.1 trillion to $21.3 trillion. Greater Europe, including Russia, on the contrary, showed moderately negative dynamics, having lost about $100 billion worth of the GDP in nominal terms over eight years to report $19.95 trillion in 2015.

Of the three clusters, East Asia demonstrated the best result (for which mostly China and to some extent South Korea take credit). The economic center of gravity is gradually moving there, while the rest of the world has noticeably slowed down.

Conclusion Two. Although the global division of labor and distribution of resources, income and capital was uneven and not quite fair, the colossal volumes of international trade and the accumulated reserves have provided the Southeast Asian countries with their own investment resources, allowing them to somewhat ignore the rules established by the hegemon.

The World Bank says in the Global Economic Prospects survey that 2017 will be a hard year for the world economy as stagnation in trade lingers, investment activity dwindles and political uncertainty in the largest economies lasts. The global GDP may grow by a tiny 2.7%, with China and India accounting for three quarters of the increase. The EU’s segment in the overall world economic growth will not exceed 10% until 2025. Should this trend persist for another ten years, the hegemony of the West may sink into oblivion. Technological standards, legal rules, main exchanges, major capitals and logistics hubs outside Asia will remain under Western control, though.

Conclusion Three. To become a beneficiary of the new globalization and a future hegemon, it is crucial for China to snatch world governance leadership, to start making rules of its own and to gain the right to the global distribution of power. The odds it will be allowed to do that are close to naught, though. In the next 20 years the rivalry for global supremacy will grow increasingly fierce, raising the risk of nuclear conflict.

DAYS OF REACTION AND MERCANTILISM

Going back to the components of “the state’s great cause”—namely “quantity, strength and form”—the strategies of the hegemon and great powers or associations of states will be arranged along three lines.

Quantity presupposes reliance on the growth of national wealth, repatriation of capital and its concentration in domestic territory and also the development of the internal market to the detriment of allies and trading partners, who are already too strong.

Strength stands for military, political, financial technological, political and (possibly) ideological dominance.

Form means the structure of one’s own economy, borders and barriers established around it and a system of incentives and expansion to external markets.

In the early days of capitalism, the economic doctrine that was capable of implementing these strategies was called “mercantilism.” Since the world has moved far away from the realities of the 18th century the modern doctrine of protectionism, re-industrialization of national economies and government intervention in the geo-economy can be called neo-mercantilism.

The newly started processes of de-globalization and growing protectionism indicate that forces are regrouping around the world before a new confrontation in a manner more customary for the late 19th and early 20th centuries. The United States and the European Union will try to concentrate the main technological chains in their own territory in order to use the practice of establishing trade barriers more effectively. The United States will trigger a new world financial crisis in the near future. It will largely be a peripheral debt crisis, looking pretty much like the one in 1997-1998 but exceeding it by far in scale and impact.

As there are just three geo-economic actors—the United States, the European Union, which has lost some of its original weight after Brexit, and China—it is worth trying to forecast their actions at least for the next 10-12 years. Over this period of time the production forces are to be regrouped for the sake of strengthening one’s own economic basis. As follows from the economic experience of the past few decades, these countries will most likely need a year or two to draft a new economic plan and introduce amendments to their domestic legislation and internal controls and at least ten years for the full implementation of economic strategies. The acute phase of the struggle for domination may begin after 2025. It will be less dependent on electoral cycles, because the general policy will gravitate towards conservatism and last most probably until 2040. Resources may prove insufficient for a longer struggle, and the population’s fatigue will begin to build up.

THE U.S.: INTERNAL CONSOLIDATION OF THE WORLD EMPIRE

Donald Trump and his team have outlined the key principles of the American strategy: ultimate pragmatism and protectionism, possibly, temporary suspension of the imperial role of maintaining global order, in other words, geopolitical control over certain regions of the world and the allies. The hegemon’s imperial obligations will be reduced in order to lessen the risk of overstrain. At first everybody else will react to Washington’s “inward retraction” with inspiration. It will take them several years to realize that the process of internal consolidation will make the hegemon a real world empire, which will stage a comeback to the geo-economy with renewed strength.

The introduction of protectionist tariffs on the import of goods, first and foremost those from Southeast Asia, and new re-industrialization are likely possibilities. The United States will begin to repatriate manufacturing industries, because having all production chains on its own territory will make it immune from retaliatory steps by trading partners. For this the United States is going to make serious tax cuts and ease regulations for enterprises on its territory. Any business that may decide to export production facilities outside the U.S. territory, fire American workers and open manufacturing operations in countries with cheap labor with the aim to sell products manufactured abroad on the domestic U.S. market will be punished with a high 35% tax rate. This proposed asymmetry has already been described as “border adjustment tax for goods that are imported.” Tax pressure on import will grow, while export, on the contrary, will be exempt from tax.

At first this will have a negative impact on manufacturers, as the share of imported components in U.S. products exceeds 50%. Consumers will be most seriously affected too since 95% of clothes and footwear on the U.S. market are imported. The prices of everyday goods, clothes and electronics, supplied mostly from Asia and Mexico, may skyrocket, while the profits of large retailers will slump. But with time industries will recover using new technologies and intellectual resources, which will make U.S. goods competitive domestically and internationally.

Energy independence. The United States consumes about 19 million barrels of crude oil a day. Domestic production meets only 40% of the overall demand, with 60% of the consumed hydrocarbons being imported. Growing production of shale, offshore and regular crude oil will considerably reduce dependence on foreign supplies within five years.

All these measures will slow down world economic growth still more and cause a decline in the manufacturing sector of developing countries. It will strip countries in Southeast Asia, Europe and Latin America of the previous opportunities to cash on globalization. The less investment is made outside the country, the greater profit will be generated inside the United States.

Furthermore, Federal Reserve Chair Janet Yellen’s term of office will expire in February 2018. When that happens, one should expect measures to tighten monetary policies. A surge in interest rates in combination with dwindling supply of the dollar for the rest of the world may prove to be a coup de grace for financial markets outside the U.S. and cause serious damage to investment activity. Also, the price of borrowing may start growing in early 2018, which will narrow opportunities for debt refinancing around the world. Of the $100 trillion worth of bonds trading on the world market, $12 trillion in government bonds have negative yields. As banker and multi-billionaire Bill Gross has said, “It is a supernova that will explode one day.” It will be quite natural to expect that a world financial crisis will occur as soon as 2018, causing a massive flow of capital into the United States, further weakening the periphery of Pax Americana, and expanding internal domestic investment opportunities for U.S. companies. World trade will be harmed still more, and countries in Southeast Asia (not just China, but also Japan) and the European Union will have to react.

CHINA’S IMPERIAL MISSION

China has a universal structure of the economy and will try to integrate production chains on the regional level by offering closer cooperation and certain benefits to Japan and South Korea. The Chinese economy can be likened to a thermonuclear reactor which has enough temperature and energy to self-sustain itself. But if something goes wrong, U.S. neomercantilism-induced processes in geopolitics and international trade will have disastrous effects on the Chinese economy.

China will seek to establish control of the commodity flows, but it will have to implement its ambitious One Belt, One Road project for that first. In the meantime, it is proceeding too slowly. China may just run out of time. Besides, control over the global financial system is the bedrock of America’s power and it is unlikely to loosen its grip on it. China will have rather limited mechanisms of influence and will have to focus on industrial and trading relations.

But China is already acting very pragmatically and harshly, particularly in the sphere of online trade, preferring to keep outsiders away from its territory. As the recent dispute over the deployment of the U.S. THAAD missile defense system in South Korea has demonstrated, China does not hesitate to use economic measures against neighbors in retaliation for unfriendly steps and neglect of Chinese interests.

China will most probably respond to a world financial crisis and redistribution of capital with harsh control of the cash flows and try to defend its own banking system from external attacks.

As international trade shrinks, stock exchanges hit turbulence, and the world currency market plunges into turmoil, Beijing will take advantage of its accrued reserves and trading ties and try to use this instability in order to propose the yuan as a reserve currency.

China will also try to spread its geopolitical influence to its neighbors, and Russia may face real risks of losing part of its sovereignty, if it fails to provide an adequate response to economic challenges in several years’ time. China is capable of guaranteeing investments and assistance to neighboring regions, but it will condition their prosperity on compliance with its own rules. China’s imperial mission implies not only the projection of power and extension of its influence to the periphery, but also control of the political, economic and information space.

Two conclusions readily offer themselves:

First, Russia’s future political independence is under threat due to its economic weakness.

Second, the outcome of the China-U.S. standoff is now impossible to predict.

EUROPE: TOWARDS VASSALAGE       

In a world that is drifting towards neomercantilism and neo-modernism Europe is in a weak and vulnerable position. It would be logical to expect that the EU will begin to replicate the United States’ industrial and trade policies, since the EU engines—Germany and France—have their own industrial policies, just as the United States and China do.

Of the three components of success in the struggle (quantity, strength and form) only quantity is at the European Union’s disposal. In other words, the accumulated capital, labor resources, high technologies, the intellectual and scientific potential and a population of 500 million (after Brexit it will have 80 million less).

But Europe has nothing like the military strength of the United States or geopolitical influence comparable to that of the U.S. or China. Moreover, Washington retains its military-political control of the Old World through NATO.

As for the form, Europe’s condition looks still worse. There is no homogenous political space, while the notorious retardation of the European bureaucracy, structural problems and inflexible fiscal rules have hamstringed the capabilities of European countries to invigorate their economies. They hindered stabilizing anti-cyclical measures in the recent past and they will be a hindrance to the adoption of required measures should a crisis happen again. Changing economic incentives and easing financial and fiscal control will not be enough. Political power will have to be centralized, apparently under Germany’s auspices as the regional hegemon. Subsequently, European countries will lose part of their national sovereignty, see a rise of dirigisme and face the EU political authority’s intervention in their internal affairs.

Or there may be a different scenario, if the United States pushes ahead with a divide-and-rule imperial policy and weakens the European Union with the support of Central and East European countries whose ruling elites are pro-American and block many processes, including relations with Russia. Provoking instability near the EU’s borders is another means of exerting pressure on the Old World. The Europeans will not be able to participate in any major military conflict in the near future. The United States’ temporary self-concentration and a pause in performing “imperial duties” will create security problems for the European Union. Apparently, the EU is doomed to remain the United States’ junior partner. Instead of being an equitable ally it will run the risk of getting fully subordinate to the United States and obediently following it in its future confrontation with China.

The EU has two options to choose from: either it retains political unity and European identity and mends relations with Russia, whose military potential allows it to eliminate a number of risks Europe is faced with and secure the European Union’s eastern and southeastern borders, or it will be doomed to vassalic dependence on the hegemon.

WHAT SHOULD RUSSIA DO?

We have no more than ten to twelve years to spare. Of the three components Sun Tzu mentioned in his formula Russia has only strength (above all, military potential) and growing foreign policy influence. It has no capital, technologies or control of the economic, financial and information space around itself. It has a vast territory, long supply lines and aging infrastructure, a poorly diversified economy and many years of following the U.S. rules of international division of labor, resources and profits. If it does not develop its economy and high technologies, it may lose not only political influence, but sovereignty in 10-15 years. In ten years’ time, some technologies and weapons will become obsolete, but Russia has not completed army modernization yet.

Several natural and logical answers to the challenges lie in the realm of foreign policy.

Firstly, Russia must enhance its role as a security guarantor in Europe, the Middle East, and Central Asia. Secondly, it must support the restoration of international law the hegemon violated in the era of neoliberalism, and seek the position of an external arbiter for the world that is moving towards protectionism and trade disputes. Thirdly, it should go ahead with spreading its cultural values and influence to peripheral countries. Support for the Russian language, television broadcasting, cinema and Russian language literature will certainly bear fruit. Fourthly, it should promote the repatriation of capital by providing professional international support for the government in its litigations for the return of illegally exported capital and the search and protection of Russian property abroad, the search for documents confirming property rights, even if they date back to the 20th or the 19th century.

We are aware that the resources are limited and there is nothing but our own potential to rely on. Russia should press for the repatriation of exported capital, establish absolute guarantees of property rights, fiscal incentives and lower taxes. Liberalism in the economy must be replaced by modern sensible dirigisme: production planning, total control of spending, pricing policies, and distribution of raw materials and equipment among enterprises. This also includes “toxic” technologies, mobilization methods, an end to the liberal approach towards the niche-based distribution of labor, and implementation of one’s own industrial policy as well as formation of an incorruptible elite.

In the field of industrial policy, Russia should focus on at least two or three own technologies that last for decades or even centuries and to invest heavily in their development. They must be knowledge-intense and complex enough in order not to be easily stolen, purchased or promptly replicated. Such projects are likely in the nuclear and subsequently thermonuclear power engineering, robotics, engine and space industries, part of which can be converted into biomedical, information, transport and energy technologies.

Energy is of crucial importance. Over the past 100 years, demand for energy has been growing proportionately to squared world population. Experts forecast a 60% growth in energy consumption in the next 15 years. Electric power generation is still 70% fossil-fueled. But the technological development of civilizations depends on the amount of energy the population uses for its needs. If it is true that another industrialization and further growth in energy consumption are ahead, then there has to be an energy breakthrough that only nuclear technologies are capable of bringing about, and not local solutions, such as solar cell panels or wind turbine generators. Only the country that possesses energy technologies will have a business class ticket to the future.

Robotics. The role of robots in the modern economy will grow every year. Making robots does not require much material or energy, but it needs intellect and knowledge of theoretical mechanics, programming and mathematics, which have always been our strengths. Robots will enhance labor productivity and may become a major export item. Robots are not confined entirely to androids. There are also military technologies. Russia’s newest tank Armata has just rolled off the assembly line but it is already several decades old. In the 21st century tanks must have no crews—only artificial intellect, mechanical devices and effective ammunition, as well as well-protected communication lines with the operator controlling the tank remotely. The same applies to submarines.

Engine-building. Hydrogen technologies related to the creation of engines for rockets and planes can have dual-use applications, hydrogen fuel cells and engines for motor vehicles, plasma and electro-nuclear engines for space tugs. These are the most promising technologies of the future.

Lastly, space technologies that put to test all available knowledge and innovations. The ability to control outer space is one of the guarantees of retaining sovereignty under any geopolitical or geo-economic scenario in the future. We are incredibly fortunate the Silicon Valley’s fancy ideas of post-industrial innovations have misled humanity and development started moving along the doomed track of electromobiles and “green” energy. This wastes capital and energy resources and gives us a competitive edge of ten to twenty years. Taking advantage of this will require three things. Intensification of education and better instruction in natural sciences; selection of gifted children across the nation. Promotion of mathematics, physics, chemistry, computer sciences and chess; and revival of higher education, incentives for R&D and proper financing of fundamental research. This will reduce the risk of having the political situation thrown off balance, encourage economic development through consumption, foment interest in education and culture, which, in turn, will provide skilled personnel for the innovative industry of the future.

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