The Transatlantic Gulf

This month is the decisive period for an American war against Iraq. According to my Washington sources, the build-up of American forces ready to enter conflict is almost (if not yet) complete. Unless there is substantial evidence of Iraq’s disarmament, in accordance with the United Nations resolutions, the United States will enforce those resolutions by military action.

The whole of the worlds’ economies will be affected by whether this war occurs, and if it does, by its outcome. If Saddam Hussein is removed from power, either by a deal with his Arab neighbors, by assassination (which has been a common event in Iraqi and Mesopotamian history) or by the U.S., that will be good news for stock prices. If there is no war or a drawn-out campaign, markets are likely to drift lower, though oil and gold may go higher. If Saddam Hussein is still in power in three months’ time, it will mean a defeat for the United States, with serious consequences for market confidence.

Already, the imminence of war has had a very important effect on the Western alliance. NATO was held together from its formation down to the break-up of the Soviet Union by fear of the Soviet superpower. It has held together more precariously since 1990, by practical agreement on successive international issues, and by the predominance of U.S. defense technology and power. There were strains between the U.S. and Europe during the break-up of Yugoslavia, but these strains did not amount to a breach, despite clumsy policy formation on both sides. Now that unity has been broken.

Germany and France are in agreement in opposing American action against Iraq, with Chancellor Schroeder using Iraq as an issue in the German election campaign. Germany is now a temporary member of the U.N. Security Council and France is a permanent member. Both countries have coordinated their policy, which is one of hostility to American action. They believe that an attack on Saddam Hussein would be contrary to international law, despite his alleged failure to comply with a succession of U.N. resolutions.

World Financial Stability: A Crisis for NATO

This dissent is a crisis for NATO, which is still the main organization for European defense. The views of France and Germany are unlikely to deter the Americans, but do threaten the whole structure of international relations. The rift obviously threatens the United Nations, which has relied on the defense power of the United States to give the only effective backing to its resolutions. When, as in Israel, the U.S. has been unwilling to act, the U.N. has been important. The future of NATO is also under threat. The decision by Lord Robertson, the well-esteemed Secretary General of NATO, not to serve for a further year when his term expires, is not a good sign of NATO’s confidence.

Undoubtedly, this disagreement over Iraq threatens the whole future relationship between Europe and the U.S. In the two World Wars of the twentieth century, the United States saved Europe from German rule, making it less popular in Germany than in Britain, its closest European ally. After the Second World War, the U.S. saved Europe from Soviet rule, again making it less popular in Russia than in Britain. Now there is a danger that Europe will be developed as a rival rather than an ally to the U.S. There is a strong French nationalist tradition, hostile to the U.S. and to Britain. President de Gaulle refused to allow Britain membership of the old Common Market in the early 1960s. President Chirac is a Gaullist. The U.S. already regards Europe as an unreliable ally, and in the U.S., isolationism is not dead.

World Financial Stability: Depending on Cooperation

From the economic and investment point of view, this potential division between Europe and the United States threatens the international structure of trade and currencies. American post-war policy has been globalist, creating the institutions of the World Trade Organization, the International Monetary Fund and the World Bank. Anti- globalist protestors hate these institutions. But they have managed to preserve a surprisingly high degree of world financial stability in the last half-century, despite the breakdown of the Bretton Woods exchange system in the early 1970s, which was followed by global inflation.

The effectiveness of this system depends on cooperation between the U.S., which remains the world’s premier economy, the European Union, Japan and China, which are the world’s largest savers. Japan has the most efficient export industries and China the lowest export costs of major powers. The global system also requires cooperation from the main Arab oil producers, which makes the confrontation with Iraq particularly significant.

This global economic system is based on the American economy and the dollar. The U.S. is already running an external deficit, mainly financed from Asia, of 5% of gross domestic product. The dollar has been under pressure. A split between Europe and the U.S. would be very dangerous for the whole global economic structure established since 1945. It would be almost impossible for the British Government, as we have close ties with both sides. This is a big, big crisis for the world.


William Rees-Mogg
February 19, 2003


It’s déjà vu, all over again. But this time it could be worse.

A decade ago – the last time the Americans were trying to dig themselves out from a recessionary economy – much of the eastern United States got buried under snow in a late winter storm. Retail sales fell almost 1 percent, logging the biggest decline for any month from ’92-’94.

The effects from the storm were then…and are likely to be now…temporary. City governments, for example, already cash-strapped from bloated surplus-era budgets and rapidly dwindling tax receipts, are in trouble. New York’s mayor estimates that clearing roads and sidewalks could cost $20 million, doubling the amount by which the city had already exceeded its budget for snow removal this winter. News commentators are throwing around the “price tag” of this storm – “$1 million a square inch” – as if they had a clue.

“Given the dire financial straits these cities are in, this is painful,” says’s Mark Zandi. “They’ve got a lot of cleanup to do at a time when there’s a lot of red ink.”

But, like the latest fashions in the Paris spring line, we’ll have to put up with commentary blaming the storm for the hideous appearance of the economy until the next panacea presents itself. Iraq, for example, is sure to reassert itself – drag that it is – very soon. As we noted yesterday, the IMF projects a U.S.-led war with Iraq could slow the world economy by 50%…

“This global economic system is based on the American economy and the dollar,” asserts our own William Rees-Mogg. “The U.S. is already running an external deficit, mainly financed from Asia, of 5% of gross domestic product. The dollar has been under pressure. A split between Europe and the U.S. would be very dangerous for the whole global economic structure established since 1945. It would be almost impossible for the British Government, as we have close ties with both sides. This is a big, big crisis for the world.”

Still, in our humble view, the dominant economic issue remains: the debt hangover from the 1990’s bubble.

“Retirement funds caught in a downward spiral,” reads a headline in the FT. “During the bull market companies were lured into investing more of their investment funds in each other’s success. This may haunt them for a long time,” explains an article. “The prolonged bull market became entrenched in people’s thinking, but now we must adjust to a very different world,” chimes another.

In the U.S., total household debt is at a record level – both in absolute terms and when compared with disposable personal incomes.

“Ten years ago,” points out’s Irwin Keller, producing figures from the Federal Reserve board, “total consumer debt amounted to 85 percent of annual incomes, while 20 years ago this ratio was about 65 percent.”

During the last 20 years – an era widely believed to have been the largest economic expansion in U.S. history – consumer debt has risen by more than 40% of disposable income. “As a matter of fact,” says Keller, “the average household today owes more than its breadwinners bring in during an entire year.”

And there’s the rub. If the Fed were to try to raise rates now…it would squeeze the “average household” to the breaking point. “For consumers,” explains Keller, “low rates translate into debt service that is no higher today relative to take-home pay than it was back in 1986. People have to set aside only 14 percent of their disposable incomes to service their existing debt, a ratio they have handled easily in the past.”

Greenspan, Bernanke & friends are beholden to keep rates artificially low – whether it draws in undesirable borrowers or not.

So what?

“After a year of slowly moderating price increases, the cost of a home is shooting back up,” USAToday replies. “The median home price in the U.S. rose at an annual rate of 8.8% to $161,600 in the 4th quarter last year. That’s the biggest quarter-over-quarter increase reported since 1981. And the upward push on prices is widespread: 39 metro areas registered double-digit price growth for the quarter, triple the number of metros with such increases in 1999.”

“The big jump reflects the explosive mix of tight supplies of homes for sale and mortgage interest rates below 6%, the lowest in four decades,” David Lereah, chief economist at the National Association of Realtors, told McPaper.

We Daily Reckoneers have noted on occasion that throughout history, as one bubble deflates, investor fervor is often directly transferred to a new asset class…most notably real estate. With the Fed locked in low rates for a long- time, we suspect the “housing bubble” every one is so keen to talk about may have not even begun.

The Dow defied snow, slush, the odds, the gods and gravity yesterday by jumping up 132 to 8041. The S&P 500 and Nasdaq followed suit, rising 16 and 36 respectively. Gold, on the other hand, continues to attract attention. But yesterday the once-neglected metal lost $4 to $342. “Like a long-dormant volcano,” observes Andrew Kashdan, conducting a trade in the Resource Trader Alert, “the yellow metal surprised nearly everyone recently by erupting toward $400 an ounce. Gold then retreated sharply and dropped to $350 an ounce. But investors are keeping a wary eye on this ‘Pele’ of the commodity markets, as it may erupt again at any time. Every minor sell-off, so far, has been buried by another explosive rally.”


Addison Wiggin