What’s happening?

Never think that lack of variability is stability. Don't confuse lack of volatility with stability, ever - Nassim Nicholas Taleb

The last few weeks have seen significant volatility in the international markets with only one market China which has been an exception. Last year’s decline in energy and the commodity complex led to a singular decline in global bond yields (of course Uber, SpaceX and Airbnb also have a deflationary impact). And, as the bund yield declined so did the EUR/USD touching a low of 1.05 and then recovering now with yield correction back to 1.14. While the S&P 500 has continued to nudge higher over the last year delivering 13% YoY return, STOXX 600 has appreciated 15.7% YoY and within that the German markets have gone up 18.9% benefiting disproportionately from EUR decline.

10 Yr Yield	Current	1 Month Ago	1 Year Ago	1M Change	1Yr Change
US	2.15%	1.89%	2.49%	0.26%	(0.34)%
Germany	0.62%	0.11%	1.31%	0.51%	(0.69)%
Japan	0.39%	0.32%	0.58%	0.07%	(0.19)%
China	3.37%	3.62%	4.17%	(0.25%)	(0.80)%
India	7.95%	7.78%	8.79%	0.17%	(0.84)%

The US bond yields are reacting to 2 factors principally – oil and an anticipation of Fed rate increase later in the year backed better GDP data (Q2 GDP 3x stronger than Q1 in the last 15 years). The recent reversal in German yields has been driven by a combination of factors:

• Sharp pick-up in German PMIs and global oil prices (brent has recovered from under 50 to 67 levels);
• Large supply of government paper despite the ECB purchases;
• A proposal from European governments that infrastructure funding would be beyond Maastricht budget criteria;
• The potential of Greece default in July.

German inflation expectations have been at 1.87%, so most of the recovery in yields has been real yield from (1.76)% to (1.25)%. Further, in most quantitative easing situations yields typically fell in anticipation of the outcome but once the purchases started yields have in a few months tended to stabilize or rise back to levels 3-6 months prior to the QE.

The ongoing financial repression of savers globally in US, Japan and Euro has been implemented to stabilize government debt to GDP while aiding asset markets to support consumption. The asset markets are supported by reduced cost of capital, lower cost of leverage and these in turn support cash financed M&A activity and repurchases. This move by central bank have tended to enhance beta in stock prices by making risk-free near zero cost of equity being pretty much comprised of equity risk premia and therefore the volatility.

Japan is the highest beta market and global tech has the best operational leverage (with low financial leverage) to benefit as global economy improves and bonds yields rise. Yield plays (utilities, REITs, high dividend stocks) and staples will underperform as US rates rise. USD rise should resume shortly as bunds stabilize.

Chinese Exception

While the globe is witnessing a asset price correction, China is on its own path given its unique economic backdrop of GDP, credit and investment growth. (some recent media articles)

• China’s exports fell 6.4% from a year earlier in dollar terms, after a drop of 15% in March, data from the General Administration of Customs showed Friday. The result was well below the median forecast of a 2.5% increase by 13 economists in a survey by The Wall Street Journal.
• The People's Bank of China (PBOC) reduced both the benchmark lending and deposit rate by 25 basis points to 5.1 percent (third cut in 6 months) and 2.25 percent, respectively, in response to weaker-than-expected economic activity data, which has raised concerns that the government's annual gross domestic growth (GDP) target of "around 7 percent" could be at risk.
• In meetings this week, officials with the People’s Bank of China have called on commercial banks to hold maximum deposit rates at levels set in February and not raise them to a new, higher ceiling the central bank set on Sunday, said two bankers with direct knowledge with the matter. (Given the high levels of corporate and municipal leverage PBOC is worried what higher cost of capital would do) 
• Stock values took off a year ago this month after new rules made it easier for Chinese nationals to buy shares. That encouragement came at the same time wealthy Chinese buyers were increasingly looking for places to invest, analysts say, primarily because Chinese officials were tightening the rules on investing in the property market, the traditional magnet for Chinese money. (Shanghai A share market is up 113% in a year)
• So what if almost two-thirds of new domestic equity investors in China left school before 15? Or that six per cent are illiterate. Wall Street analysts are just as dazzled by market rallies. Okay, three million new account openings a fortnight seems frothy. As does a third of stocks in the Shenzhen A index more than doubling in the past year, with an average price-to-earnings ratio of 180 times. (Sadly forward multiples are harder to calculate as a third of these companies will not be making profits this year.) Bubble watchers point out median earnings multiples for Chinese technology stocks are twice US peer valuations at their dotcom peak. More worrying perhaps is a health-goods-from-deer-antlers producer on 70 times, the seamless underwear manufacturer on 90 times or those school uniform and ketchup makers on 330 times!
• "Almost everyone is doing margin trading, so I am following the trend,” said Zhang, who borrowed as much as 1 million yuan from her brokerage. “If I buy good stocks, the returns can completely cover the costs.” Zhang said she doesn’t pay attention to corporate debt levels, which reached 125 percent of gross domestic product in 2014, according to the McKinsey Global Institute. The aggregate margin lending balance at China's stock exchanges has almost doubled since end-2014 to CNY1.9trn (USD302bn), equating to 3.1% of domestic market capitalisation as of 8 May.
• Chinese businesses raised more than 252 billion yuan ($41 billion) from share sales in 2015 through Thursday, on pace for the busiest year on record, according to data compiled by Bloomberg. At least 30 of those companies, including HeiLongJiang ZBD Pharmaceutical Co. and Silvery Dragon Prestressed Materials Co., are using a portion of the proceeds to pay down liabilities. The Shanghai Composite has surged 120 percent from last year’s low in January and it’s gone 479 days without a 10 percent drop from a recent peak, the longest stretch in its more than two-decade history.

In summary, as internal and external growth momentum falters, PBOC is reducing rates to support the high levels of corporate and local government leverage. China equity market has seen a massive increase as real estate returns decline and regulations make it a more difficult investment option. Margin lending is on the rise and corporates are raising more and more equity capital to repay leverage, potentially transferring risk to households.

The impact of the Chinese slowdown is widespread – Copper has been on a decline since 2011 was down another 7% for the year, USD/AUD and USD/BRL up 18% and 35% respectively. If China has a hard landing, with a lending crises or growth rates falters under 5% or exchange rates start depreciating, we would again see a revival in global bond bulls.

For the second time in seven years, the bursting of a major-asset bubble has inflicted great damage on world financial markets. In both cases--the equity bubble in 2000 and the credit bubble in 2007--central banks were asleep at the switch. The lack of monetary discipline has become a hallmark of unfettered globalization. Central banks have failed to provide a stable underpinning to world financial markets and to an increasingly asset-dependent global economy. - Stephen Roach, Morgan Stanley

The Chinese are making the same mistakes as the west did in keeping asset markets high and now compounding the risks created by historical high leverage based expansion.

Re-engaging an ancient empire

Iran was the oldest Empire in world founded by Cyrus the Great around 600 BC. This imperial inheritance laid the foundations for successive empires that followed i.e. the Parthian, Sasanian and Safavid dynasties. The current Iranian state continues in core form to be geographically common to the erstwhile empires with a landmass greater than UK, France and Germany combined extending from Caspian to the Indian Ocean and running concurrent to the most important energy sea-lane (Hormuz strait) in the south. It has the largest natural gas reserve and the 4^th largest oil reserve in the world.

The political influence of the state extends beyond borders into Syria (Al-Assad regime), Lebanon (Hezbollah), Iraq (Shiite government and militias) and Yemen (Houthis). A continuous series of imperial power develops among the people and bureaucracy a mindset and maturity to manage complex situations almost at a sublime level. And, unlike the autocracies that govern the artificial Arab states, Iran has a far more institutionalized form of governance with deep cultural and bureaucratic heritage which allows it the dynamism. Shia Iran is partially democratic and far more sophisticated, enlightened, and Westernized than benighted, culturally sterile Wahhabi Saudi Arabia - Kaplan. For example, Iran exports its ideology and coalesces these groups into extensions of the regime; Saudi Arabia also expounds its Wahhabi ideology but is unable to exercise even a partial influence amongst its supporters.

This is the nation that will come out of the cold once the nuclear deal is negotiated and that India has ignored. For most parts of the cold war there has been limited convergence in India and Iranian interest. However, the principal points of convergence over the last few decades has been the joint cooperation to the Northern Alliance in Afghanistan, energy imports and helping Iran build Chabahar port to allow access to Afghanistan and Central Asia. But once the US-led sanctions tightened, India withdrew.

Unlike India’s relationships in South-east Asia which are driven more by economic logic and carries limited political burden (despite them wanting India to balance China), Iran is important from a geopolitical perspective. India’s non-aligned history with limited maturity in playing great power politics has kept it away from the complex quagmire of the Middle East. As an aspirational power, we need to have the ability to play the game between the Arabs, Turks, Persians and the Israelis on the one side and the more important from India’s perspective the dynamic in the Iran-Pakistan-Afghanistan theatre. This is our neighborhood and one where we have had cultural and economic relationships for thousands of years.

Global power players understand the situation well. The Russian foreign minister walked out of the meetings as he saw the last round draw to a close to ensure delays and potential derailment and immediately after the last round of talks concluded offered the S300 missile systems. Iran not into the international fold also plays well with the Russian and the Chinese as it is a source of significant US distraction. The Chinese have already placed massive bets in Pakistan, have limited historical relation with Iran. For the US which is already coordinated with Iran on Islamic state, it is critical to engage Iran. With the fall of the totalitarian regime of Saddam Hussain, the middle-eastern balance of power collapsed. A nuclear Iran would trigger ambitions in Saudi Arabia and Turkey. A ‘cooperative’ Iran allows tremendous latitude for Americans i.e. stabilizing Iraq and Syria, while restoring the regional balance of power.

The Indian-Iranian equation can build significant commonalities in energy, infrastructure and defense. I had written in December 2014, “But with our old relationship with Iran and our significant interest in Middle Eastern energy, no policy is a 'non-answer'.” It is already past time when India should have started doing the ground work.

European Gauge

In 1948, US implemented The Marshall Plan to aid Europe, in which it gave $13 billion in economic support over 4 years to help rebuild European economies (remove trade barriers and modernize industry) after the end of World War II. However, the first aid went to Greece and Turkey in January 1947 under the Truman Doctrine, which were battling against communist expansion, even before the program was formally initiated. From then till the end of the cold war US continued to provide defense support to Greece. Post the collapse of the Soviet Union, the single currency came into place in a few years. The threat of Russia had dissipated and germanization of EU monetary policy allowed massive increases in spending capacity of EU countries, especially high inflation southern countries. This resulted in low interest rates for countries like Greece and Spain which had very different economies. And, what further depressed rates was the massive Chinese production increases at dollar pegged rates.

The European Coal and Steel Community to the current EU were essentially a political response to the repeated wars between France and Germany and was designed to economically embed Germany in Europe through market access. This market access with no exchange rate adjustment mechanism has resulted in the industrial engine of Germany, the 4^th largest economy in the world, building a ~8% current account surplus. Current account surplus is nothing but a manifestation of incremental saving over investments and lack of internal demand and raw material access has been a critical element of German geopolitical insecurity.  

With the European economy slowing substantially and inflation declining (and now aided by energy prices) post the global financial crises; ECB adopted various measures to keep the system on life support and more recently initiated quantitative easing (essentially financial asset purchases). The resultant impact is a substantial decline in the Euro, currently at 1.09 to USD from 1.4 levels a year back and expected to decline to 0.9-0.85 in the next 2 years. The real yields in Eurozone have already declined below Fed QE levels (10 yr bunds at 0.17%, France at 0.47% vs US at 1.19% and Japan at 0.35%). While this will play out in terms of helping export sensitive countries like Germany or Italy in the international markets and in terms of second order wealth effects due to increasing equity prices across the EU together which hopefully will lift investment, it however does not directly allow for adjustments within EU. The Euro-area countries also continue on their path of reducing fiscal deficits (e.g. Spain 5.6%, France 4.4%) or debt deflation and wage growth has stalled. In essence two aspects impact the Eurozone as always – (1) the overwhelming weight of the cost-effective German export engine; and (2) lack of adequate demand within Germany.   

The economic pressure has resulted in the rise of right wing political parties across the European Union like Podemos in Spain or the victory of Syriza in Greece. Along with the economic pressure, the geopolitical pressure of the European Union has multiplied with the reemergence of Russia (Ukraine conflict and increasing intensity of military exercises) and collapse of order in the middle-east, all on the eastern border of Europe.

The nation acutely reflecting the multiplicity of these pressures is the ancient land of Greece, birth place of western civilization, sitting on the south-eastern border of Europe.

Greece will likely be the first pin to fall under the economic constraints created by the Eurozone. As after WW II, Russia is awaiting this moment where it could have a toe-hold in the Mediterranean. This may also result in a very similar response where EU or the US steps in to prevent the same under a national security paradigm. But this response will alter the complexion of EU. Grexit will raise the gauge pressure to critical levels and EU which in many ways was cajoled together by the US as a geopolitical response post World War II, will be taking a step towards the known unknown…national interest first but path uncertainty may finally make it otherwise.

“Europe and the euro zone have no reason, rationally, to push Greece out of the euro. But this is a system in which many parties, many countries, many governments, many electorates participate and we could have events which, rationally, are not controllable.” – Greek Politician

“The Europeans are still human, and they will encounter terrible choices like those that others face and that they have faced in the past. They will have to choose between war and peace, and as in the past, they will at times choose war. Nothing has ended. For humans nothing significant is ever over.” George Friedman, Flashpoints, 2015 

History: Eternal Lessons

Thucydides, an Athenian historian, who also happened to serve as a general during the Peloponnesian war wrote a historical account of a war between Sparta and Athens between 431–404 BC - The History of the Peloponnesian War. He is also known as the father of ‘scientific history’ who unlike Herodotus known as ‘father of history’ relied on eyewitness accounts and did not believe in divine intervention. His book has been studied through the ages by generals and statesmen and is a must document at the Naval War College in Rhodes Island even today.

As I attempt to capture some of the situations and quotes in the book and explain their relevance even today, I am sure I will be unable to do full justice. Despite this, I will endeavor this recklessness.

1. “Of the gods we believe, and of men we know, that by a necessary law of their nature they rule wherever they can. And it is not as if we were the first to make this law, or to act upon it when made: we found it existing before us, and shall leave it to exist forever after us; all we do is to make use of it, knowing that you and everybody else, having the same power as we have, would do the same as we do” and “Three powerful motives prevent us from doing so – security, honour and self-interest” – A profound statement of realpolitik that would find approval from Chanakya to Machiavelli to Morgenthau which resonates in application of political power through the ages – French during Napoleon, British for most of the 18^th century through to World War II, Americans after World War II and especially after the fall of the Soviet Empire. With regard to the second part, even if the Americans want to accommodate the rise of Chinese power, history shows that such change is never easy exactly for the reasons outlined and the inability to judge the change in relative power balance and consequently give up in an orderly manner.
2. “We are only remonstrating with you, as is natural when one’s friends are making mistakes. Real accusations must be kept for one’s actual enemies who have actually done harm.” – An example of diplomatic speaking where the other person who is being blamed is being told that he is friend. Such amazing finesse at work even two and a half millennia ago.
3. “In a word, they are by nature incapable of either living a quiet life themselves or of allowing anyone else to do so.” – This was said of Athens at the height of its power. Doesn’t this remind us of American behavior now- fighting in the middle-east, checking the Russians, containing the Chinese? A superpower by the sheer weight to its actions, which to itself may seem almost a minor shift in its balance, creates massive ripples in other states.
4. “Of all manifestations of power, restraint impresses men the most.” – We are inherently afraid of the exercise of power and, thus, the act of holding back itself creates a massive psychological impact in effect magnifying the power and more so in a positive sense.
5. “And war is not so much a matter of armaments as of the money which makes armaments effective particularly is true in a war fought between a land power and sea power” and “But those who live inland or off the main trade routes ought to recognize the fact that if they fail to support the maritime powers, they will find it much more difficult to secure an outlet for their exports and to receive in the goods which are imported to them by sea” – This is what the Spartans (land power) said of the Athenians (sea power). The Soviets where the pre-eminent land power post World War II but had no access to sea (trade via sea is >60% of global trade) except in the frozen north and the east and through the Black Sea, gates to which were controlled by Turkey and Greece. This limited access ensured the Soviets could never develop a vibrant global economy. It was finally the inability to develop their economy which caused the downfall of Soviet empire.
6. “For it was only on the basis of equal strength that equal and fair discussions on the common interest could be held.” – The Ukrainians gave up their nuclear weapons inherited at the break-up of the Soviet empire which in some sense equalized the conventional force imbalance with Russia. They did not study their history well and have no chance of a reasonable settlement in the current imbroglio and Russians force their decisions.
7. “In other ways, too, the Athenians were no longer as popular as they used to be: they bore more than their share of actual fighting, but this made it all easier for them to force back into alliance any state that wanted to leave it.” – The British before or the American empire now!!
8. “Having no Hellenic war at their hands, the Athenians made an expedition against Cyprus and Egypt (under Persians).” – In the 19^th century the British had no significant European challenge and would manage the balance of power in the continent more by managing the powers stacked against each other and providing the residual balance. This allowed them massive autonomy to spread and manage their global empire. The Americans subdued North and South America allowing them to use their “spare capacity” globally, unchecked at home.
9. “He who thinks of his own pleasures and shirks from fighting is very likely, because of his own irresolution, to lose the very delight which caused this hesitation; while he who goes too far because of a success in war fails to realize the confidence in which he goes forward is a hollow thing.” – Foreign policy is about estimation of relative strengths, intent and geopolitical reality. British under Chamberlain followed a foreign policy of appeasement and did not a prevent an even bigger horror which finally led to the downfall of the empire while Hitler broke the pact with the Soviets after his initial victories to realize Baku not learning for the history of Napoleon’s war with Russia in early part of the 18^th century. History anyway is replete with such mis-judgements like Iraq and Afghanistan more recently by the Americans.
10. “…so long as they have no central deliberative authority to produce quick decisive action…everyone is concerned with his own interest – the usual result of which is that nothing gets done at all.” – We do not need to look far but the last 5 year government term under the UPA in India.
11. “Our constitution is called a democracy because power is not in the hands of a minority but of the whole people…when it’s a question of putting one person before another in positions of public responsibility what matter is not membership of particular class but actual ability which a man possesses.” – Pericles, one of the leading men of Athens, made this statement at a funeral of the soldiers giving rationale for democracy and how it leads to meritocracy. Splendid clarity on national good!
12. “Your empire is like a tyranny: it may have been wrong to take it; it is extremely dangerous to let it go.” – Again a profound statement underlying the understanding of great power politics. The European powers - Portuguese, Spanish, French and the British – built their empire forcing open North and South America, subduing the Middle East, ruling India and Indo-China and forcing the Chinese open. As they, vacated these geographies post World War II, they underwent serious convulsions (India-Pakistan, Taiwan-China, Israel-Arabs, Persians-Arabs) and while they let it go post World War II, these theatres are yet to stabilize for differing reasons but ultimately imbedded in the fact that that what was held in relative peace due to over-whelming force has been left open to historical fault lines i.e. the Kurds, Shias, Sunnis, Allawites fight for Syrian lands based religion. Can the Chinese live in peace if they give up Tibet and Xinjiang, as these restive provinces want?

Professor Bury, Regius Professor of Modern History at the University of Cambridge, pays a tribute to him, “If, instead of a history, Thucydides had written an analytical treatise on politics, with particular reference to the Athenian empire, it is probable that . . . he could have forestalled Machiavelli. . . .[since] the whole innuendo of the Thucydidean treatment of history agrees with the fundamental postulate of Machiavelli, the supremacy of reason of state. To maintain a state said the Florentine thinker, "a statesman is often compelled to act against faith, humanity and religion." . . . But . . . the true Machiavelli, not the Machiavelli of fable. . . entertained an ideal: Italy for the Italians, Italy freed from the stranger: and in the service of this ideal he desired to see his speculative science of politics applied. Thucydides has no political aim in view: he was purely a historian. But it was part of the method of both alike to eliminate conventional sentiment and morality.”

Change and No-Change

20^th century saw massive pace of technological advances – radio, internet, antibiotics, airplanes, space explorations, automobiles, nuclear power and many more. The pace and global reach of these changes was unprecedented in human history. But what we are seeing now is a tremendous gush of creativity we have seen in the last decade. Let me illustrate a few (source Wikipedia):

• Apple Inc. is an American multinational corporation headquartered in Cupertino, California, that designs, develops, and sells consumer electronics, computer software, online services, and personal computers;
• Facebook (formerly [thefacebook]) is an online social networking service headquartered in Menlo Park, California. Its website was launched on February 4, 2004;
• Uber, founded in 2009, is an app-based transportation network and taxi company headquartered in San Francisco, California, which operates in cities in many countries;
• Airbnb is a website for people to rent out lodging founded in August 2008. It has over 800,000 listings in 33,000 cities and 192 countries.

These are some of the most highly valued companies created in relatively short periods of time (Apple changed gear only in 2007). But note one important aspect; these companies haven’t done ‘new-new’ they have through creativity re-arranged the deck chairs. We had laptops, emails / cellphones, cabs and hotels before these companies came on the scene.

This age is likely to continue and for the following reasons:

• Maturing of internet: The internet originated in 1960s as part of the US Government funded communication channel to survive traditional telecom networks during war times. While academia used it since 1980s but not until 1990s it was commercialized. We have over the last decade seen massive surge in penetration through cable and telecom companies across the globe aided but the development of support infrastructure from internet marketing and last-mile delivery;
• Availability of capital: Globally, as I have discussed in my previous articles there has been a massive decline in aggregate demand since the global financial crises. This in turn has resulted in a global savings glut. High risk ventures are started due to fertile grounds created by capital availability and survive because of innovative agile teams supported by massive dosage of capital (which itself has become more organized with angels, VC etc)  to force through a change in pace of adoption;
• Decline in population and population growth in developed markets: In an agricultural society children are productive at a very young age (even 6-7 years) and in an urban society they start becoming productive at 3 times that age and before that they are massive consumers. Consequently, growth has slowed and entrepreneurs and risk capital have focused their energy on re-organizing existing markets.

This is not to suggest I am depressed about new inventions and but is just a phase that the overall environment imposes. In 2014, according to projections by Battelle, science and technology development group, the world will spend about $1.6tn on research and development in a range of engineering-related disciplines from robotics to social media. As the world, sees pressure from aspects like environment, resource constraints or populations decline constraining delivery of basic services and creating wage inflation, human adaptability will resolve the same.

Richard Lipsey, emeritus professor of economics at Simon Fraser University in Canada, and an authority on technology trends, is bullish. He points to a list of current changes, “We are now seeing artificial limbs that respond to brain impulses as if they were part of people’s own bodies; the continuing transformation of personal interactions, revolutions and politics through social media. Then, there is the fact that we are probably the last generation of people who will die with only the genetic characteristics that they inherited from their parents [and] the end of the two-century-long age of fossil fuels, as they are replaced by solar, geothermal and wind power. We have the promise of a nanotechnology revolution that will transform virtually everything that we use; and the ability to learn through scanning technology more about how the brain functions than could have ever have been dreamt of by Sigmund Freud.”

So while tempo of global invention and innovation change more dramatically, there are other things like geopolitics where basic characters of nations change glacially. I have written multiple times about Russian thought process in my articles:

• In March 2014 - The Russians control 11.5% of global landmass with the ninth largest population in the world. It has borders with over 16 independent countries including US, Japan and China. It has limited natural boundaries protecting the Russian core (Moscow region) except buffer states like Ukraine  or ‘caucus’ countries like Georgia or buffer regions like Siberia. Given the diverse population in such far flung areas, it manages to keep relative calm. It is fundamentally an ‘unstable’ kept in some form of stability by strategy including coercive force of energy or military. It would take great skill and heft to manage such a situation;
• In October 2014 - When the USSR disintegrated, Ukraine, US, UK and Russia entered into a treaty in 1994 whereby Ukraine would give up the nuclear weapons in exchange for ‘independence and sovereignty of the borders’. But when the Crimean crises and its aftermath came there were no guarantors for the borders. Given Ukrainian importance to the Russians (Odessa is the largest warm water port, gas pipeline infrastructure, food security and geopolitical space) this situation were to come the moment West tried to wean Ukraine away from Russia. Russia would exert its full might to ensure Ukraine stayed. US and UK understand not only the importance of Ukraine but also their inability to exert meaningful pressure on the Russians, despite the economic sanctions. Therefore, the situation continues. It will take a while to resolve till Russian core interest are agreed to be protected.

When US and Europe sought to integrate Ukraine in Europe, it is naïve of them to think that there would be no repercussions. Russians breached Crimea and then the eastern borders of Ukraine. So while US and European leaders have been flying around trying to find a diplomatic solution, Russians, maestros of geopolitics, are changing the situation on the ground. Key railway city of Debaltseve (logistics critical in any war) has recently fallen with expectation of war moving to Mariupol, port city, on the Azov Sea in Ukraine's southeast. Since Napoleon brought out the Russians from the frosty lands into Europe in 1814, they have been a critical player in Europe and the world and will be till the population decline saps national strength.

That which does not kill us makes us stronger

Scientists have found that although traumatic experiences such as losing a loved one can be psychologically damaging, small amounts of trauma can make us more resilient.

Researcher at the University at Buffalo, said: “A lot of ideas that seem like common sense aren’t supported by scientific evidence. Indeed, a lot of solid psychology research shows that having miserable life experiences is bad for you. In fact, some research has suggested that the best way to go through life is having nothing ever happen to you. But not only is that unrealistic, it’s not necessarily healthy”’ He suggested that those who go through difficult experiences are given a chance to develop an ability to cope with such situations in the future. “The idea is that negative life experiences can toughen people, making them better able to manage subsequent difficulties,” he said.

The year has started with a bang literally. The Swiss broke the peg to the Euro this week which Goldman Sachs CFO referred as a 20-standard deviation event. A 7-standard deviation event happens every 390 billion years! Well, given their reputation, I am sure Goldman VAR models can handle 20-standard deviation predictions…Gold has been on a literal tear since the beginning of the year moving up from under $1,200 levels to $1,280 levels. Copper the mother of all industrial metals has corrected from $6,400 to $5,600 YTD and oil slide continued as if gravity had seized it. And, none of this will kill anyone but surely create sufficient misery for many.

The actions which the financial crises has shaped like the US and European easing and the Chinese debt expansion which essentially bought time and created “aggregate demand” have turned a full circle. I expect the fundamental disconnects which existed prior to the crises and those formed by the crises to manifest themselves in the next 5-7 years:

• China due to its massive debt creation and lack of domestic consumption will confront Japan-style stagnation or a hard landing in the next few years causing commodity country severe hardships. With the Euro and Yen pressing down and wages expanding, China becomes more and more un-competitive;
• Japan is conducting the mother of all experiments where BOJ will soon be the owner of most of government debt. Consumer wealth will decline as the Yen declines but population decline and lack of global demand will make the experiment all the more difficult;
• European Union may experience its first exit in Greece post the 25 Jan election results but that will only be the beginning of the consequences of the fundamental problem of the union - How can countries with differing fiscal and rules have the same monetary policy? I have written in the past how this is more a political enterprise than economic, consequently economic outcomes will be determined by political events;
• In this mix as the USD strengthens, capital flows will become more constrained.

Political deadlock will continue and the central banks would seek to prevent systemic crises like the last 7 years and ensure we emerge as a stronger race!!

                              ………That which does not kill us makes us stronger………

Great Leader Chair

If your actions inspire others to dream more, learn more, do more and become more, you are a leader - John Quincy Adams, 6^th US President

Leadership is an amorphous concept. The oxford dictionary defined leadership as, “The action of leading a group of people or an organization, or the ability to do this.” The concept of leadership has been oft debated in recorded history from Plato’s Republic to modern day research. And, given its enduring importance I set out to discuss it once more.

The Prime Minister of India governs by the force of the mandate given by the people of India. This social contract is based on the evolutionary need of the populace on the time, which in a democracy evolves and finds representation much faster. But different states differ in the manner they provide legitimacy to their leadership to govern. For example in Saudi Arabia, the power is shared between the Al-Saud and Al Shayk family (descendants of Muhammad ibn Abd al-Wahhab founder of Wahhabi form of Sunni Islam). The Al-Saud family governs the country politically while religious institutions owe their allegiance to the Al Shaykh family. "This oasis is yours, do not fear your enemies. By the name of God, if all Nejd was summoned to throw you out, we will never agree to expel you" said Ibn Saud. Muhammad ibn Abd al-Wahhab replied, "You are the settlement's chief and wise man. I want you to grant me an oath that you will perform jihad (holy war) against the unbelievers. In return you will be imam, leader of the Muslim community and I will be leader in religious matters." The ulema (Muslim law scholars) exert wide spread influence in turn reinforcing the legitimacy of the Al Saud family. When the Soviet Union collapsed, Eastern European states which were governed by Moscow without their ‘will’ splintered. Similarly, Iraq or Syria having a population with divided identities will struggle for decades to produce a legitimate leader. These countries have and will with their current geographies be governed by force alone thus producing cycles of instability – force will define legitimacy. Consequently, legitimacy of leadership is the first leg of the Great Leader Chair.

All politics, from organizational to international, is a struggle for power. The accomplishment of ultimate aims of leader is determined by the power he individually and the state he governs possesses. “Of the gods we know,” to quote Thucydides, “and of men we believe it is a necessary law of their nature that they rule wherever they can.” Mughals established their rein over India, the Nazis wanted to colonize the world or Wilson wanted make the world conducive to democracy. Finally, the efficacy of the power possessed defined the outcomes. One of the critical goals of the Chinese state is to avoid general dissent in the core Han population or in restive provinces of Xinjiang, Tibet or Inner Mongolia, thus, keeping the state as one. The Communist Party (and currently Xi Jinping) maintains this order through the power wielded by the People’s Liberation Army. Narendra Modi through his personal charisma won the BJP a majority in parliament thus giving the country a majority government after 30 years. This gives him immense personal power over this party, therefore, governing India and in turn the ability to project that power internationally. At the Potsdam conference in 1945, Churchill, Stalin and Truman entered the room from 3 different doors at the same time to emphasize equality of their power and prestige! Power, thus, is the second leg of the Chair.  

In 1813 in Dresden, after the disastrous defeat of Napoleon in Russia, Napoleon was threatened by a coalition of all of Europe. In a discussion which is estimated to have lasted 9 hours Napoleon, acting like the emperor of Europe, tried to restrain Austrian Chancellor Metternich from joining the coalition against him. After a stormy session, Napoleon dropped his hat expecting Metternich to pick it up. Metternich pretended not to see it; at that point it should have been clear to the Napoleon, who had earlier had a decisive victory against Austria in Austerlitz, the situation had changed. He was decisively defeated in Leipzig. When China entered the nuclear club, India went to the UN asking for abolishment of nuclear weapons, as a non-nuclear state its bargaining ability was zero and the international conflict between the US and USSR ensured that this would never come to pass. Good intentions give assurance against bad policies but they are no guarantee of political success, similar has been India’s action vis a vis Pakistan time and again. Great leaders understand the advantage of timing and use it to ensure successful outcomes.

Abraham Lincoln had a moral end when he wanted to abolish slavery. To this extent he dealt with the southern states making compromises and in the last year of the civil war accelerated the bombing of civilians to bring a quick end to the war. In the short term, it meant killing people but in the longer run saved more lives by ending the conflict. Similarly, Churchill and Roosevelt engaged with Stalin to end the Nazi terror. In his acclaimed book “The Great Terror: Stalin’s Purge of the Thirties,” Anglo-American historian Robert Conquest said: “We get a figure of 20 million dead [under Stalin], which is almost certainly too low and might require an increase of 50 percent or so.” When Bangladesh was liberated, while it violated the principles of honouring the sovereignty of Pakistan and against significant international opposition, it was a moral project of liberating an oppressed populace. Moral Compass, thus, is the fourth and final leg of the Chair. The examples I have outlined are international in nature where gap is the widest as there are no rules that govern the behavior of nations except constraints (behavior of other nations, geography, military power etc) and history. At the microcosm of an organization, the distance between action and morality is minimal, as not only an ethical and moral code has evolved between participants but there are codified rules which govern behavior (i.e. equality of opportunity or hazardous employment).

In my view ultimately it’s a delicate dance between these four critical attributes – Legitimacy, Power, Timing and a Moral Compass – that defines a great leader and statesman. Konrad Adenauer was 73 when he became the first chancellor of West Germany post WWII and then led it for 14 years. He had opposed the Nazis and then went on to set up the CDU party post the war to unify Catholics and Protestants. His views on Germany’s role in Europe were strongly influenced by the two world wars and the century-long animosity between Germany and France. He, therefore, focused his attention on promoting pan-European cooperation leading to European Coal and Steel Community in 1950 and also the later treaty for the European Economic Community in 1957 which laid the foundation for the European Union, thus, embedding German success in European success. While he is blamed for cementing the division of Germany, he understood that it was the unification of Germany eight decades back under the genius of Bismarck that became the key cause for the wars. It demanded incredible courage and statesmanship to guide a stricken nation. Similarly, Mustafa Kemal Atatürk did post the breakdown of the Ottoman Empire guiding Turkey to its independence and modernity.

A statesman acts based on constraints imposed on his action and by the burden history imposes upon him. But it is only post outcomes that people begin to attribute foresight; he simply doesn’t know at that point in time, given the multiplicity of influences, the consequences of his action. Thus, I have excluded foresight as a critical attribute. Lincoln admitted, “I do the very best I know how, the very best I can, and I mean to keep doing so until the end. If the end brings me out all right, what is said against me won’t amount to nothing. If the end brings me out wrong, ten angels swearing I was right would make no difference.”