The potential impact of war

War is not something that we want to think about, but it is a reality in the world. Since peaking in severity with World War II, there have been a series of wars, for the most part with decreasing severity. Since 2010 however, a new trend has started to emerge. Whether it is a blip or a harbinger of a larger conflict, the sort of which we have not seen since the Korean War, is as yet unknown. 

 What we do know is that the rate of battle field deaths has started to increase faster than in years. From Afghanistan to Africa; Ukraine, Syria and elsewhere, battlefield deaths are increasing. While still small by historic standards, the nature of weaponry makes any movement of troops and conflict deeply concerning and potentially disruptive in many ways – some expected, others surprising and extremely damaging at multiple levels. 

Among the most disturbing actions are those being taken by Russia and China. Those nation’s regional hegemonic ambitions while certainly understandable, are not generally indicative of mature behavior. Russia’s foray into Ukraine and China’s into the South China Sea are both assertive to the point of courting further confrontation. What would be the outcome if there were another proxy war, like Korea or Vietnam, between the United States and either China or Russia? 

Given the desperate straights of some nations economically and the religious animosity in the world today, I don’t think it is unlikely that we see an escalation of regional conflicts, especially in the Middle East. Unfortunately, one of the “cures” for debt and financial problems has always been war. It isn’t much different today.

When we look at Russia’s actions in the past couple years there is clearly an economic component in addition to the strategic. Their push into Ukraine and Syria, while certainly strategic from a projection of power standpoint, are mostly economic in their long-term core objectives. Examine the actions of any country that has been at war, there is certainly an economic aspect in almost every case.

While I don’t foresee any big wars occurring, and pray I am right, it is not out of the realm of possibility. More likely though, we will see further regional conflicts, particularly in the Middle East where Iran and Israel are clearly at odds, Saudi Arabia feels threatened and Turkey is increasingly frustrated. Don’t discount the economic motivations behind anything that happens militarily around the globe, even if those motivations do not come to fruition in the end.

War and Energy

With regard to the energy sector, I have already predicted in my last piece that we will see a Russian missile fall “accidentally” onto an oil facility in Iraq that ISIS either controls or purportedly controls. I will backtrack here a bit, Russia might acknowledge the missile was meant for it’s target.

What is interesting here is that not only will a strike on oil and gas facilities that put some upward price pressure on oil and gas, but it could give Russia more access into Iraq as they are almost surely to offer their assistance, for a fee and/or military access to Iraq.

A new development the past week is that the U.S. has hinted that it might bomb some oil and gas facilities in Syria, in addition to sending in “advisers.” That came just before it was announced that the U.S. would start selling some of its Strategic Petroleum Reserves from 2018-2025 which might be just in time for higher oil prices. 

If you haven’t been reading the Bloomberg and Financial Times energy sections, I urge you to do so. What you will be able to surmise is that there is a lot more cooking in the Middle East than getting rid of a few marginal frackers and deep sea oil drillers. What is going on in the Middle East is a proxy for larger global ambitions by way of reintroducing risk premium to energy prices.

Energy and The Fed

When – not IF – energy prices go up, that will represent one of the major “transitory” impacts on low inflation that Yellen and the Feds keep talking about. Consider how inflation is calculated. Come the end of the year, any rise in oil above the year prior price will represent inflation in the formula. What if oil goes to $60/barrel by summer. That’s about a 20% rise on a substantial portion of the inflation calculation (somebody can look it up) and the knock on to producers. 

Milton Friedman reminds us that “inflation is always and everywhere a monetary phenomenon in the sense that it is and can be produced only by a more rapid increase in the quantity of money than in output.” 

The tools that central banks and governments have “discovered” recently, are not likely to suddenly be put on a shelf regardless of what the nuvo-Austrian economists loudly pontificate. Whether it is true or not that quantitative easing (QE – short hand for printing money and deferring debt) has worked, those employing it believe it has worked, thus will keep using it as they see it necessary to do so. 

Inflation therefore is coming because of all of the money that has been printed and will be printed in a low growth environment that will not speed up much under any circumstances due to demographics and over hanging debts which we have covered before. The coming rise in oil and gas prices due to capital spending reductions, slight increases in demand and depletion will be the spark for that inflation. War activities might hasten the process.

Collapse or Depression, or Something Else?

Most people are afraid of another collapse and depression. That is what leads to the “put money in a mattress” and buy gold mentality. People are so psychologically scarred from 2008 and the Great Recession, that they are terrified of it happening again.

That fear is why many were late to get back into the stock market after panic selling in 2008-09 and locking in their losses. It is also why so many have drifted out of the stock market in the past year. That lack of demand for stocks is what is leading to traders being able to control prices with such power this year and contributing to a rolling bear market. Investor fear is creating a self-fulfilling prophecy of a severe stock market correction.

The vast mistake that so many people are making in taking their money out of the stock market, with I believe no intent to put it back in, is that they believe we are due for another financial collapse. While I covered in the trends section that it is probably true we are in a bear market and mild recession – thus some caution is warranted – it is people’s extreme pessimism and fear that concerns me. 

So, while there is never a “due date” for a financial collapse, our own fears can result in our fears manifesting. Recall FDR’s “the only fear we have to fear is fear itself” and one can infer that we are probably “doing it” to ourselves. If people do not reinvest on the ultimate correction, that is a bad sign for capital markets and the economy longer term. We have to as a nation make sure that we put our money to work in markets again sometime soon or else.

Economically, we are going to likely get “stagflation” for awhile after the next round of monetary stimulus. Why no collapse? Simply put, there has been so much money printed and there is in fact pent up demand that we should be able to plod along. Will we? I don’t know. All we need is some creative destruction and to continue to advance by baby steps. The questions become, are we psychologically healthy enough to see that things aren’t so terrible that we can move forward or do we “do it” to ourselves. We will see.


Comments are closed.