Bull and Bear Markets in Int'l Tensions, Part II

Why do rising long-term waves expand the orbit of the world market and lead to the involvement of new countries and regions in the trade network?

Kondratieff showed that during a downward wave:

“…the depressed state of economic life stimulates the search for ways of cutting production cost — the search for new technical inventions that will facilitate such cost cutting. And we have already seen that it is precisely during that period – that is, during the long downward wave in economic conditions — that technological discoveries and inventions are especially numerous.”

When the new inventions and innovations that occurred during the downward wave are then applied in industries, they lead, according to Joseph Schumpeter, to the upswing and the upward wave of the long cycle. Now, if we look at the displacement (innovation, invention), which led to the rising wave of long cycles, it is interesting to note that most of the inventions related to an improvement in transportation.

In the First Kondratieff upswing (1780s to 1814), the innovation was the construction of roads, canals, and bridges. In the Second Kondratieff upswing (1840s to early 1870s), the railroadisation of America was the driving force of the expansion. (The Suez Canal was completed in 1869.)

In the Third Kondratieff upswing (early 1890s to 1921), electricity, automobiles, and communication drove the improved business conditions. (The Panama Canal was completed in 1914.) In the Fourth Kondratieff upswing (1940s to late 1970s), electronics and aerospace were key drivers of the expansion.

Finally, in the Fifth Kondratieff upswing (2001 to mid-2020s), telecommunications, the Internet, and IT services are driving the expansion. Therefore, we can say that the first two Kondratieff upswings were largely driven by improvements in the physical infrastructure of transportation. (Canals and railroads reduced the cost of transportation enormously.) In the Third Kondratieff upswing, physical transportation was improved through the automobile.

Also, for the first time, electricity allowed power to be transported inexpensively, while the telegraph, telephone, and radio brought about instant communication. In the Fourth Kondratieff upswing, transportation speed was vastly improved by the aerospace industry and by the introduction of the container.

Lastly, the inventions of the late 1980s and 1990s (a Kondratieff downward wave) in the field of communication (Internet) and high-technology industries are, if not drivers, at least important facilitators of the global expansion, as they greatly improve the capacity for outsourcing of production and knowledge-based industries. In all the cases of innovations and inventions for the transportation of goods, people, news, knowledge, and data, communities, societies, and regions were brought closer together.

Therefore, the application of inventions and innovations in transportation does bring about “an expansion of the orbit of the world market and the involvement of new countries and regions in the trade network,” as Kondratieff stipulated.

It should be obvious that the application of the Internet and huge advances in the shipment of physical goods (ship and air cargo) allowed a much faster integration of the previous communist or socialist countries into the global economy than would have been possible without these innovations.

Moreover, it should also be clear that when new countries become involved in the “trade network,” they compete with the established socioeconomic order and frequently displace established industries or countries, which were the previous economic powerhouses. (In the 19th century, the US began to displace Britain as the economic hegemony, and in recent times Asia has began to displace Western economic hegemony.)

It should therefore be evident that international tensions arise when new competitors begin to erode the old economic powerhouses’ share of world markets and threaten the employment of their labour force. (See Figure 11, which shows the decline of the United States’ percentage share of the world’s exports.)


Why do rising Kondratieff waves intensify social tensions and create the prerequisite for big internal upheavals?

According to Nikolai Kondratieff, during the upswing, “the rapid growth of new productive forces, intensifying the activity of the classes and groups within that have an interest in that growth, creates the prerequisite for sharpening the struggle against socioeconomic relations that are obsolescent and hinder development. It creates the prerequisite for big internal upheavals.” The historical evidence seems to support Kondratieff’s empirical findings.

Most major revolutions took place in the rising wave of the long wave cycle, including (according to Kondratieff) the following: the Declaration of Independence of the United States and the establishment of their Constitution (1783-1789); the French Revolution (1789-1804); the February Revolution in France (1848); revolutionary movements in Italy, Germany, Austria, and Hungary (1848-1849); the Bonapartist coup d’état in France (1851); the national Unification movements in Italy (1859-1879) and Germany (1862-1870); the Civil War in the United States (1861- 1865); the Herzegovina uprising (1861); the Revolution in Paris (1870-1871); the founding of the German Empire (1870-1871); the Russian Revolution of 1905; the Turkish Revolution of 1908; the Chinese Revolution (beginning in 1911); the February Revolution in Russia (1917); the October Revolution in Russia and the Civil War (1917-1921); the revolution in Germany (1918-1919); and the revolution in Austro-Hungary (1818-1919). I might add that the civil war and seizure of power by the communists in China in the 1940s also occurred right at the beginning of the upswing of the Fourth Kondratieff upswing (1940s-1970s), while the civil war in Vietnam and the revolution by the Red Guards in Iran took place at the end of that upswing.

As indicated, Kondratieff explained the occurrence of so many internal upheavals during the rising wave of the long wave cycle by suggesting that the rapid growth of productive forces led to strife between the groups that have an interest in growth against socioeconomic relations that are obsolete and hinder economic and social development.

This observation rang a bell recently while I was on a visit to India. Since the introduction of private budget airlines in India by numerous entrepreneurs, airline traffic has been increasing at a torrid pace. For the full year of 2003, airlines carried a total of just 12 million passengers (compared to 3 million air passengers daily in the US).

But since the introduction of budget airlines, the number of air travellers in India has already almost doubled and will increase in the next couple of years to around 50 million passengers. The problem, however, is that airports haven’t yet been privatised and are at the mercy of India’s archaic bureaucracy, which hasn’t found it necessary to upgrade them to meet the increased demand.

So, whereas the private sector is rapidly expanding the capacity for air travel by ordering new planes in order to meet the new demand arising from lower fares, the bottlenecks occur at the airports, whose infrastructure has hardly improved, and which involve nightmarish boarding of and deboarding from planes as well as lengthy transfers to and from airports to downtown centres.

So, here we have an example of a group of entrepreneurs who have started budget airlines in India and are keen to see it grow, but who are running up against a socioeconomic system that is obsolete and hinders economic growth.

Likewise, political reforms in China and some Middle Eastern countries have badly lagged behind economic progress and development. Under these circumstances, tensions are likely to increase and lead to social strife in the future. (Terrorism is, at least in part, a symptom of this.) Peculiar to the current environment is the growing social unrest in resource-rich countries.

Seeing soaring commodity prices and an enormous profit windfall for mining and oil companies, and the governments that benefit from the rise in prices, opposition groups and voters are becoming increasingly vocal in their demand for a more equitable share in these countries’ resource wealth. Recent election results and developments in Venezuela, Bolivia, and Mongolia, rebel attacks against Nigeria’s oil facilities, and a civil war in Iraq seem to validate this point.

Further Causes for Intensifying International Tensions

The historian A. F. K. Organski developed a theory of “power transition,” which regards economic issues as the most important factor in building power, which then leads to wars (A. F. K. Organski and Jack Kugler, The War Ledger, Chicago, 1980).

According to Organski, “shifts in the international distribution of power… create the conditions likely to lead to at least the most important wars, an power is the most important determinant of whether a war will be won or lost. And power, again, is the resource that leaders hope to preserve or to increase by resorting to armed conflict.”

According to Organski, it is more common in history to have one country dominate the international system than to have peace and stability based on roughly equal nations, which prevents the predominance of one nation as the “balance of power” theory assumes.

Therefore, when a dominant nation is being challenged by another power, it is the differences in national economic growth rates that will affect the rise and fall of different countries’ “relative capabilities” in the international hierarchy and lead to major military confrontation. According to Organski:

“the manner and the speed of national growth and development change the pools of resources available to nations…. If one nation gains significantly in power [Organski uses GDP as an index of national power or capabilities – ed. note], its improved position relative to that of other nations frightens them and induces them to try to reverse this gain by war. Or, vice versa, a nation gaining on an adversary will try to make its advantage permanent by reducing its opponent by force of arms. Either way, changes in power are considered causae belli. These changes in relative power, which (as mentioned) are measured by Organski by changes in GDP, lead to “challengers” who “are seeking to establish a new place for themselves in international society”.

In World Politics (New York, 1968), Organski summarised the major mechanics of the powertransition model:

“At the very apex of the pyramid is the most powerful nation in the world, currently the United States, previously England, perhaps tomorrow Russia or China…. Just below the apex of the pyramid are the great powers. The difference between them and the dominant nation is to be found not only in their different abilities to influence the behavior of others, but also in the differential benefits they receive from the international order to which they belong. [In the case of the US, a global dollar standard – ed. note.] Great powers are, as their name indicates, very powerful nations, but they are less powerful than the dominant nation…. As we have seen … the powerful and dissatisfied nations are usually those that have grown to full power after the existing international order was fully established and the benefits already allocated [India, China – ed. note]. These parvenus had no share in the creation of the international order, and the dominant nation and its supporters are not usually willing to grant the newcomers more than a small part of the advantages they receive…. The challengers, for their part, are seeking to establish a new place for themselves in international society, a place to which they feel their increasing power entitles them. Often these nations have grown rapidly in power and expect to continue to grow. They have reason to believe that they can rival or surpass in power the dominant nation, and they are unwilling to accept a subordinate position in international affairs when dominance would give them much greater benefits and privileges.”

In the context of today’s world, the relations between the superpower (the US) and its allies (largely the EU, Japan, and Australia) and the challenger — China, with its extremely rapid GDP growth – and, in the context of the Middle East, between Israel as the super-power because of its well-trained army and nuclear weapon capabilities and Iran as a challenger — are extremely complex.

In the case of Iran, as a challenger of Israel and possibly of the Sunnidominated Arab countries of the Middle East, it isn’t faster economic growth rates that have led to the present tensions.

However, Organski concedes that the challenger may emerge not only because of faster economic growth rates leading to more desire for power, but also because of “political capacity”, which depends on “the level of penetration of government power into the national society, the capacity of the government to extract resources from its national society” [i.e. the motivation and training of terrorists — ed. note], and finally, the performance of the government in delivering such resources to the intended ends (i.e. the acquisition of nuclear weapons).

In the case of China, it is not likely that it has ambitions to displace the US as the global hegemon, but it certainly would like to establish itself as the dominant power in the Asian region.

While I strongly believe in Organski’s theory that shifting economic power increases the likelihood of war, because the challengers have reason to believe that they can rival in power the dominant nation and are unwilling to accept a subordinate position in international affairs, it should be noted that China’s elites are certainly no “strangers to power” and that the sources of the new-found strength are by no means “entirely the result of internal changes”.

Moreover, China doesn’t want immediately what it believes is its due by right of strength, refusing to take time to seduce supporters away from the old leader (the US).

On the contrary, China’s leadership has been very smart and patient in building its alliances around the world by virtue of its foreign policy of not interfering in other countries’ internal affairs (unlike the US), its ability to assist other countries in the construction of infrastructure projects for the joint exploitation of their resource wealth, and naturally also because of its enormous appetite for natural resources.

China has established close relationships with most Latin American governments (Evo Morales, the newly elected indigenous president of Bolivia, has just visited Beijing) and has in recent times increasingly courted African countries. Since 2002, it is estimated that China’s trade with Africa has nearly tripled and could exceed $30 billion in 2006. (China imports 28% of its oil and gas from sub-Saharan Africa.) And while US trade with 47 sub-Saharan countries exceeded $50 billion in 2005, at the current growth rate China’s trade with Africa could exceed that of the US within three to five years. (In January of this year, China’s foreign minister, Li Zhaoxing, led a delegation on a visit to Nigeria, Libya, Cap Verde, Senegal, Mali, and Liberia, underscoring Beijing’s accelerating diplomatic and economic presence in Africa.)

In response to the strategic alliance between Japan and the US, China has also carried out joint military exercises with Russia and has significantly improved its relationship with India. (In late February, India’s General Arvind Sharma visited China at the invitation of the People’s Liberation Army (PLA) in order to find ways to improve relations and cooperative exchanges between the two militaries at different levels. India and China recently also announced that they would team up to bid jointly for selected energy assets abroad.)

In Central Asia, China is actively trying to gain influence through its membership in the Shanghai Cooperation Organization, whose members include China, Russia, Kazakhstan, Kyrgyzstan, Tajikistan (the latter three have a several thousand miles-long common border with China), and Uzbekistan. (China applauded Islam Karimov’s bloody crackdown at Andijan, and Russia carried out joint military exercises with Uzbekistan.)

At the same time, China is trying to seal a multibillion-dollar oil and gas deal with Teheran in the coming weeks, which is likely to undermine the US’s efforts to isolate Iran. According to Iranian oil ministry officials familiar with the negotiations, both countries are eager to conclude a deal, for which a memorandum of understanding was signed in October 2004 involving the development of Iran’s Yadavaran oil field in a transaction worth $100 billion, before potential sanctions are imposed on Iran for its nuclear ambitions.

According to Iranian officials, both Iran and China will “follow the agreements and contracts and keep in touch through bilateral exchange delegations in order to fulfill the agreements on energy section”.

The Yadavaran oil field is expected to produce about 300,000 barrels of oil per day and would also be partly owned by India’s stateowned Oil & Natural Gas Corp with a 20% stake in the project. (Royal Dutch Shell PLC, which is likely to act as a technical adviser, is also interested in participating in the future development of Yadavaran.)

And while China, India, and Russia have agreed to refer Iran to the UN Security Council because of its nuclear activities, it is likely that neither of these countries would approve imposing a trade embargo or any other effective economic or political sanctions on Iran, as China and India are interested in Iran’s oil and gas supplies while Russia is a major weapons supplier. (Iran has agreed to spend $1 billion on 30 Russian Tor M1 air defence missile systems, capable of protecting a target from up to 48 incoming planes or projectiles to a range of six kilometres.)

Since Iran’s President Mahmoud Ahmadi-Nejad is unlikely to back down on his ambitions to acquire the technology to produce nuclear weapons, bombing of Iranian nuclear facilities by either the US or Israel has become increasingly the only option in the eyes of Western powers. (According to Iran’s foreign minister, Teheran’s resumption of nuclear research was “irreversible”.)

What China’s and Russia’s reaction to such bombing would be is hard to forecast. It is, however, unlikely that China would risk any military confrontation at this time in order to protect its economic interests (Iranian oil supplies). More likely would be a desperate act by Iran, which might be tempted to retaliate by disrupting oil shipments through the Persian Gulf.

Still, confrontation between the dominant nation (the US) and the challenger (China) would have come a step closer and may result in a significant increase in international tension.

In this respect, it is important to understand that Asia is far more dependent on oil supplies from the Middle East than is the US, which imports 60% of its oil requirements but only sources 20% of those from the Gulf region. By comparison, Japan, South Korea, and Taiwan import all their oil, of which 75% is sourced from the Gulf. China imports only 35% of its oil, but 60% of that comes from the Gulf; while India imports 75% of its oil, of which 80% comes from the Gulf.

A strike on Iran’s nuclear facilities by the Western alliance could, therefore, have far more negative repercussions for Asia than for the US and its European allies. Should, as a result of such bombing, China’s interests be threatened, some kind of retaliation would have to be expected. As indicated above, I doubt that it would lead to a military confrontation, but the Chinese might significantly boost the delivery of sophisticated weapons (through their unofficial weapons dealer — North Korea) to terrorist organisations and groups whose interests run contrary to those of the US. Another point to consider when discussing the potential for an aerial strike on Iran’s nuclear facilities is what would follow once the situation normalises again.

It is unlikely that the bombing of Iran’s nuclear facilities would lead to the demise of the hard-line Mullahs and of President Ahmadi-Nejad — unless the country was invaded, which is most unlikely given the military experience in Iraq.

If, as a result of such a conflict, the oil flows to China were interrupted, bringing about some meaningful economic disruptions in its economy and in the rest of Asia (including India), it is likely that China might conclude a strategic defence agreement with Iran and assist with the reconstruction of Iranian defence capabilities, in order to secure reliable supplies of oil for the future. Such an Iranian-Chinese alliance, which might also include India, would obviously complicate matters a great deal and further increase tension in the region.

What we can observe is that the stakes are very high and that, unless Iran renounces its nuclear weapons ambitions, some sort of a military intervention seems to be almost inevitable.

Furthermore, we can now see why, like Kondratieff postulated, rising commodity prices as a result of shortages lead to intensifying international tensions. If there were currently an oil glut in the world, the bombing of Iran’s nuclear facilities would likely already have occurred and have no wider geopolitical consequences. But because the oil market is tight and prices are high, any military intervention could have some serious long-term consequences.

Also, it should be clear that the hands of the dominant nation (the US) and its allies are not as free as they were ten years ago, when China hadn’t yet emerged as a “challenger” who is now “disturbing the equilibrium that existed theretofore”, either intentionally, or unintentionally but simply as a result of its increasing demand for scarce resources.


Marc Faber
March 15, 2006

The Daily Reckoning