Soft power vs. hard power

The fallacy of equating economic power with clout. Choice excerpts:

The US is the world’s pre-eminent military power, but the economic benefit of
that is hard to see...

In the modern world, there is no observable relationship
between size of country and its standard of living. Small and large countries
are found among the rich and among the poor...

Economic power is based on monopoly derived from being the only seller of a particular good or service, or on monopsony derived from being the only buyer. Such power is held by individuals and businesses, not by states. Dominance of an industry or activity is not the same as scale, though scale and dominance are loosely related. International trade is conducted by individuals and businesses, not governments, and it is individuals and businesses, not governments, that negotiate the division of the value added trade creates. The principal economic role of states is not to get in the way. They can impede the process of adding value through trade, protectionism or disruptive currency interventions. These actions damage their own businesses even more than they damage the businesses of other countries.

Hello G20, goodbye G7

In a new piece on Vox EU, the legendary Barry Eichengreen considers some of the repercussions of the G20's rise as the new forum for addressing global economic issues. My two cents: the G20, while more unwieldy than the G7 and yet not as representative as one would like, is still the most logical place to tackle global economic problems right now. Hey, path dependence can be a real pain.

The Great Resource Guessing Game

Petroleum Intelligence Weekly has published its influential annual ranking of the world's top oil companies. The most notable and widely reported aspect of the report is the global power shift from the traditional private oil majors to national oil companies. 27 of the top 50 oil companies are now majority state-owned. China's CNPC leads the surge, having surpassed both BP and Shell according to the report's metrics. Exxon Mobile is the only majority privately owned company remaining in the top 5.

The impact of a global oil market dominated by state-owned firms on both international growth and security is immense. The recent Global Trends 2025 report published by the US National Intelligence Council, and Patrick's farming piece below, highlight the high probability of future inter-state conflicts over increasingly scarce resources like oil. Energy security has risen to the top of both national and international agendas, and the threat of countries using the "energy weapon" for geopolitical leverage has lead many Western states to move in the direction of resource nationalism.

Beyond military and economic conflict, market uncertainty is the biggest effect of greater state control of natural resources. Reserve and refining capacity statistics are classified as state secrets in many countries with nationalized energy sectors. As Western majors are kicked out, and given the press restrictions in countries such as Russia and Iran, it will be increasingly difficult to obtain an accurate measurement of global supply and capacity (you can find my take on Russia's energy industry here). The hysteria surrounding "peak oil" (due in part to the realization of "known unknowns") last year probably contributed to the record run up in oil prices. The inability of traders to estimate and match long term supply and demand will drive up the speculative risk premium in oil prices, particularly if over-the-counter markets remain unregulated (an issue that has dropped off the political radar since the commodity bubble burst). This will only exacerbate inflationary pressures, political instability, and resource competition similar to what we witnessed over the past few years.

Information, transparency, property rights, and security are all central elements of an efficiently functioning oil market. Greater resource nationalization compromises all of these, and increases the probability of resource-driven political and economic conflict. As long as the trends outlined by Petroleum Intelligence Weekly continue, energy security will remain one of the defining issues of the 21st century.

(Photo: ifijay)

On Mandelson, money, and oil

I apologize for the light blogging as of late. I’m starting a new job next week and moving very soon thereafter, so I’m trying to get about a million things done before then.

Three thoughts. First, you’ve no doubt seen that Gordon Brown, in an attempt to shore up his eroding political position, has asked Peter Mandelson (his once arch-enemy) to join his cabinet. Mr. Mandelson was formerly the EU Commissioner for Trade (rough equivalent to the United States Trade Representative.) His departure is a serious blow to multilateral trade negotiations, and it makes it that much less likely that we’ll see a Doha deal in 2009. In my opinion, he understood how far he could successfully push the EU position to the inch, and he had no problems standing up to some of the more recalcitrant members. His departure also seriously diminishes the institutional memory of the major negotiators, which means quite a bit in trade talks.

Second, after tonight’s debate, we can probably start talking about the McCain campaign in the past tense. He looked worse than usual tonight: old, irritated and tired. Mr. Obama didn’t have a great night either, but you don’t need to shake things up when you’re in a commanding lead. Tonight was one of Mr. McCain’s last chances to do something, anything, to reverse that. Aside from proposing that the Treasury buy everyone’s mortgage (I’m pretty sure that was new) and simultaneously proposing a government-wide spending freeze, he didn’t do much. I think he’s toast, and I will argue, as I have done repeatedly in the past, that contracts for Mr. Obama winning the presidency are still undervalued on Intrade. Fivethirtyeight’s electoral projections give Mr. Obama a nearly 90% chance of victory, which strikes me as closer to the reality. His Intrade contract is trading for $7.20ish. Do the math. If you buy right now, and he wins on Nov 4th, you’re making a 39% return in less than a month. Did I mention that Intrade trades contracts worth Real Money?!? Now who said there weren’t good investment opportunities in today’s markets? It just depends on which markets you look in.

Finally, great post by my illustrious coauthor yesterday about the “black lining” (catchy!) of the current economic turmoil: oil prices closed below $90/barrel, although I think they went back above that mark today. Either way, they’re down nearly $60/barrel since July. The point is, commodities correlate well with economic growth: you need more oil, copper, and aluminum to make stuff when the economy is good and demand for ‘stuff’ is strong, so the prices of inputs (commodities) rise as well. Problem is, now that everyone thinks the economy is going to hell in a handbasket, commodities prices are tanking. Great if you want to buy into the market, not so great if you like strong economic growth. So while Nick is right that less oil revenue frustrates the plans of nasty petro-crats, I’d qualify this slightly by saying oil prices are low for the wrong reasons. We want prices to be low because a diversified energy portfolio means we’re demanding less oil, not because we simply can’t afford it. The foreign policy implications may actually be more, not less, dire than we imagined.

Russian military capacity

During the Russian-Georgian War this summer, I noted that military analysts the world over would be watching carefully at how Russia fared in its first conventional conflict since Afghanistan. In an article in last week’s Economist, the verdict is in: Russia didn’t do too hot. I strongly encourage you to read the entire thing, but here are the best bits:

· Russian military communications equipment was so dysfunctional in Georgia that the army resorted to using mobile phones to coordinate positions. I can’t help but wonder if they had to pay roaming charges.

· Despite all of the bellicose rhetoric about naval buildup and the imminent construction of 5 or 6 new aircraft carriers, Russia doesn’t even have a naval port with the capacity to build them.

· Although Russian defense spending has doubled in the past 4 or 5 years, massive and systemic corruption ensures that about a third of the funds are wasted.

· In a notable reversal of Cold War geopolitical calculus, Russia now relies on its nuclear deterrent to offset the West’s overwhelming advantages in conventional military combat. It used to be the exact opposite.

While it’s important to acknowledge Russia’s newly aggressive behavior, one should not conflate the willingness to use force with the capacity to use force. Russia remains a threat to its immediate neighbors, but, joint military exercises aside, the country has an incredibly limited capacity to project hard power further than that. In short: Russia is powerful, but that power is constrained by realities (an economy based on resource extraction, corruption, weak institutions) that will make it difficult to sustain.

(Photo from Oleg Zdorik’s photostream)