Between US President Donald Trump’s zero-sum disputes with China
and Iran, UK Prime Minister Boris Johnson’s brinkmanship with Parliament and
the European Union, and Argentina’s likely return to Peronist populism, the
fate of the global economy is balancing on a knife edge. Any of these scenarios
could lead to a crisis with rapid spillover effects.
NEW YORK – In the classic game of “chicken,” two drivers race
directly toward each other, and the first to swerve is the “loser.” If neither
swerves, both will probably die. In the past, such scenarios have been studied
to assess the risks posed by great-power rivalries. In the case of the Cuban
missile crisis, for example, Soviet and American leaders were confronted with
the choice of losing face or risking a catastrophic collision. The question,
always, is whether a compromise can be found that spares both parties their
lives and their credibility.
There are now several geo-economic games of chicken playing out.
In each case, failure to compromise would lead to a collision, most likely
followed by a global recession and financial crisis. The first and most
important contest is between the United States and China
over trade and technology. The second is the brewing dispute between the US and Iran. In Europe,
there is the escalating brinkmanship between British Prime Minister
Boris Johnson and the European Union over Brexit. Finally, there is Argentina, which could end up on a collision
course with the International Monetary Fund after the likely victory of the
Peronist Alberto Fernández in next month’s presidential election.
In the first case, a full-scale trade, currency, tech, and cold
war between the US and China would push the current downturn in manufacturing,
trade, and capital spending into services and private consumption, tipping the
US and global economies into a severe recession. Similarly, a military conflict
between the US and Iran would drive oil prices above $100 per barrel,
triggering stagflation (a recession with rising inflation). That, after all, is
what happened in 1973 during the Yom Kippur War, in 1979 following the Iranian
Revolution, and in 1990 after Iraq’s invasion of Kuwait.
A blowup over Brexit might not by itself cause a global recession, but it would certainly trigger a European one, which would then spill over to other economies. The conventional wisdom is that a “hard” Brexit would lead to a severe recession in the United Kingdom but not in Europe, because the UK is more reliant on trade with the EU than vice versa. This is naive. The eurozone is already suffering a sharp slowdown and is in the grip of a manufacturing recession; and the Netherlands, Belgium, Ireland, and Germany – which is nearing a recession – do in fact rely heavily on the UK export market.
With eurozone business confidence already depressed as a result of Sino-American trade tensions, a chaotic Brexit would be the last straw. Just imagine thousands of trucks and cars lining up to fill out new customs paperwork in Dover and Calais. Moreover, a European recession would have knock-on effects, undercutting growth globally and possibly triggering a risk-off episode. It could even lead to new currency wars, if the value of the euro and pound were to fall too sharply against other currencies (not least the US dollar).
A crisis in Argentina could also have global consequences. If
Fernández defeats President Mauricio Macri and then scuttles the country’s $57
billion IMF program, Argentina could suffer a repeat of its 2001 currency
crisis and default. That could lead to capital flight from emerging markets
more generally, possibly triggering crises in highly indebted Turkey,
Venezuela, Pakistan, and Lebanon, and further complicating matters for India,
South Africa, China, Brazil, Mexico, and Ecuador.
In all four scenarios, both sides want to save face. US
President Donald Trump wants a deal with China, in order to stabilize the
economy and markets before his re-election bid in 2020; Chinese President Xi
Jinping also wants a deal to halt China’s slowdown. But neither wants to be the
“chicken,” because that would undermine their domestic political standing and
empower the other side. Still, without a deal by year’s end, a collision will
become likely. As the clock ticks down, a bad outcome becomes more likely.
Similarly, Trump thought he could bully Iran by abandoning the
Joint Comprehensive Plan of Action and imposing severe sanctions. But the
Iranians have responded by escalating their regional provocations, knowing full
well that Trump cannot afford a full-scale war and the oil-price spike that
would result from it. Moreover, Iran does not want to enter negotiations that
would give Trump a photo opportunity until some sanctions are lifted. With both
sides reluctant to blink first – and with both Saudi Arabia and Israel egging
on the Trump administration – the risk of an accident is rising.
Having perhaps been inspired by Trump, Johnson naively thought
that he could use the threat of a hard Brexit to bully the EU into offering a
better exit deal than what his predecessor had secured. But now that Parliament
has passed legislation to prevent a hard Brexit, Johnson is playing two games
of chicken at once. A compromise with the EU on the Irish “backstop” is still
possible before the October 31 deadline, but the probability of de facto
hard-Brexit scenario is also increasing.
In Argentina, both sides are posturing. Fernández wants a clear
electoral mandate, and is campaigning on the message that Macri and the IMF are
to blame for all the country’s problems. The IMF’s leverage is obvious: if it
withholds permanently the next $5.4 billion tranche of funding and ends the
bailout, Argentina will suffer another financial collapse. But Fernández has
leverage, too, because a $57 billion debt is a problem for any creditor; the
IMF’s ability to help other distressed economies would be constrained by an
Argentinean collapse. As in the other cases, a face-saving compromise is better
for all, but a collision and financial meltdown cannot be ruled out.
The problem is that while compromise requires both parties to
de-escalate, the tactical logic of chicken rewards crazy behavior. If I can
make it look like I have removed my steering wheel, the other side will have no
choice but to swerve. But if both sides throw out their steering wheels, a
collision becomes unavoidable.
The good news is that in the four scenarios above, each side is
still talking to the other, or may be open to dialogue under some face-saving
conditions. The bad news is that all sides are still very far from any kind of
agreement. Worse, there are big egos in the mix, some of whom might prefer to
crash than be perceived as a chicken. The future of the global economy thus
hinges on four games of daring that could go either way.
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