Rickards: Connecting dots in the global mosaic

The relationship between geopolitics and global finance has rarely been more densely connected and complex as it is today. Knowing how to invest and allocate assets among various classes requires understanding the strategic drivers of valuation and volatility. Here is an around-the-world tour of flashpoints and their implications for investors.

The disintegration of Iraq is far from over. The situation will deteriorate further putting upward pressure on oil prices. The ISIS-Sunni drive to Baghdad has been temporarily slowed due to the Shiite call to arms, and Iranian intervention on the side of Shiites and the al-Maliki government. ISIS sensibly is regrouping and consolidating gains while awaiting further aid from its Saudi sponsors. All of this is a prelude to much larger battles to come.

The war in Iraq has the potential to become a regional war. Turkey may be drawn in by the emergence of a Kurdish state in northern Iraq. Iran has already been drawn in to support al-Maliki. Syria and Iraq have effectively been partly merged because the border has been erased. Jordan is relatively weak and will be hurt by refugees and spillovers. Jordanian territory is used by both ISIS and the United States for base operations. None of these developments will be resolved soon, so the regionalization of the conflict will proceed with negative implications for regional energy supplies.

The relaxed reaction from the White House to the situation in Iraq is easily explained by the fact that Obama reached a detente with Iran last December when he announced a framework for agreement on Iran’s nuclear programs and removed some economic sanctions. Obama’s foreign policy vision is one where the United States withdraws from the world but leaves behind regional “cops on the beat” who keep order in their neighborhoods. Iran is Obama’s preferred cop on the beat in the Middle East so the United States is relying on it to restore order in Iraq without quite saying so.

Détente with Iran is a betrayal of Saudi Arabia. Since 1974, the United States dollar has been propped up by the original “petrodollar” deal whereby the United States acted as a guarantor of the security of the House of Saud in exchange for Saudi agreement to price oil in dollars. This requires countries to maintain dollar reserves in order to secure oil supplies whether they like the dollar or not. Now that the United States is reneging on its half of the deal, Saudi Arabia can abandon the petrodollar especially in its new energy dealings with China. This points to United States dollar weakness ahead, even if the dollar gets a temporary lift on flight to safety momentum.

Nor has the Ukrainian crisis abated. Putin made large gains in Crimea and eastern Ukraine in the early going. United States and European economic sanctions were tame, but the pushback was enough to cause Putin temporarily to relax tensions. As soon as the ISIS attacks in Iraq became a distraction for the White House, Putin seized the opportunity to go on the move again by putting Russian tanks in parts of Ukraine and tolerating the shoot-down of a Ukrainian troop transport plane. Putin is proving himself to be patient, nimble and focused compared to the White House, which is reactive, clumsy and easily distracted. This crisis is also not going away soon and will put upward pressure on the prices of oil and gold.

In Europe, the head of the European Central Bank, Mario Draghi, recently lowered two interest rates, including the creation of a negative rate of interest for the first time. Draghi has proved once again that he is the only central banker who understands central banking. He says little and does less, but it is all quite effective because he keeps dry powder and does not try to do more than he actually can. His recent moves show his dedication to price stability by fighting deflation, but also show that he will not print money or engage in quantitative easing, “QE,” for the purpose of stimulating growth. Draghi knows that money printing doesn’t work to create growth, nor will he join the currency wars by cheapening the euro. The euro has nearly bottomed for now and will trend higher as it becomes clear than Draghi separates himself from the easy money crowds at the Fed, the Bank of England, the People’s Bank of China, and the Bank of Japan.

China is in the midst of a massive credit and property bubble. Many expected this bubble would burst in 2015; however, recent evidence is that the bubble is bursting faster and these problems may come to the fore in 2014. China has enough reserves to bailout its banking system, but not without consequences. Chinese growth will slow sharply and there will be spillovers in other markets as Chinese banks sell good assets in developed economies to raise cash to meet demands at home. Angry mobs will storm banks to demand repayment of the Ponzi scheme “wealth management products” that have been sold by the banks. These money riots will spread.

The global situation resembles the 1970s. The Fed engaged in easy money policies in 1971 and 1972, in part to facilitate the reelection of Richard Nixon. High inflation did not emerge immediately. Money illusion prevailed and behavior was slow to change. But a series of geopolitical events in 1972-1973 culminating in the Yom Kippur War in October 1973 led to an oil embargo and sharply higher oil prices. In turn, that raised inflationary expectations.

Economists ever since have blamed the “oil shock” for the inflation of the later 1970s. But a proper understanding is that easy money before the embargo created dry wood and the oil embargo was a spark that lit the fire. You need both the wood and the spark to have the fire of inflation. The same is true today. The Fed and other central banks have printed trillions of dollars of money in the past four years. So far, inflation has been relatively tame. But the printed money is only the wood; a spark is still required. Events in the Middle East, Ukraine and China today may provide the spark.

The result may actually be the worst of all possible worlds — higher inflation and weaker growth, called “stagflation.” The Fed is between a rock and a hard place. If they withdraw ease by tapering the money printing, they will puncture asset bubbles. If they keep printing, inflation will gather strength. As weak data emerges over the rest of this year, the Fed will realize it has tapered into weakness. This will cause them to launch new money printing, or QE4, in 2015.

By then, a geopolitical witches’ brew will have emerged, and act as a spark for inflation that will race past the Fed’s expectations. Stock and property bubbles will burst, banks will be in distress, and the safest assets will be energy, gold, land, natural resources, agriculture and other hard assets.

James Rickards is portfolio manager for the West Shore Real Return Income Fund and the author of The Death of Money, a New York Times best seller from Penguin Random House. Follow on twitter @JamesGRickards.

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  • veindoc1

    I believe that Rickard’s has the best global assessment and future progression of the state of this world brew of economic turmoil and geopolitical events. His final assessment to get prepared with hard assets is the bottom line.

  • oblivia

    This idiot’s been bleating about inflation for five years now. Wrong every year.

    And remember his nonsense about the currency wars that never happened? I see he’s stopped talking about that.

    Why do people allow these consistently-wrong pundits to keep on spouting their lies?

    • Dave

      Do you live on Mars, have you lost it or do you work for JP Morgan Chase? This man has BEEN RIGHT ON THE MONEY for years. We are presently watching his predictions play out in real time. If you had (which obviously you have not) listened to him he has stated that just like a ham and cheese sandwich requires ham and cheese, inflation requires two things also, money printing (the ham) and velocity (the cheese). The money printing has been there. The velocity has fallen off to near nothing.
      Another item you either do not know or have forgotten. The Consumer Price Index that the govt. uses does not include food and fuel, the two very things people purchase more than anything else.
      If just these two things were added, we would have inflation running at 10% per year or more.
      MAN! Wake up!

      • montana83

        Socialism, the welfare state whatever you want to call it is dying just as Communism did. Countries that embraced these policies are debasing their currencies by printing money. They are either slowly or rapidly going bankrupt. Japan is the leader in this.
        Above you asked for timing on gold. When the JGB market implodes that will be the signal of the beginning of the end for many fiat currencies. The dollar will strengthen when the Yen and JGB market collapse but so will gold. France, the US and other countries then have their financial crises.
        A date? Martin Armstrong says things begin to unravel beginning 9/1/2015 or thereabouts. Rickards says it all unwinds in 3 to 5 years. Sounds about right.
        Rickards recommends 10-20% in gold. Read his book or blog for his other recommendations.

    • Chief Malave

      Your screen name “Oblivia” is perfect, for you couldn’t be any more oblivious to what’s occurring around the world. Get your head out of your posterior and pay attention to what’s really going on. Start by reading Rickards.

      • oblivia

        How’s your gold portfolio doing?

        • Chief Malave

          Excellent, so keep disparaging gold for paper. You’ll be running toward it before long. I guarantee it.

          • oblivia

            When exactly will I be running towards it? Can
            you give me a date?

          • Sven

            How juvenile asking for dates. No self-respecting investor would hold someone accountable for a date. That’s what Bloomberg reporters are for.

            Grow up.

          • TSA_TheSexualAssault

            There is still a double in gold to be had, pretty soon, to go with the double I’ve enjoyed since 2002. As long as Democrats appoint the central banksters, PM’s will do fine.

            The lead/copper/brass run-up since 1999 has been magnificent. Selling at 8x mark up to pleased customers was great. No need to hang around the sporting goods counter at Mal-Wort.

            I will give you a date: 01March2015.

            People who give you a precise date and market-event are idiots or criminals. You only get the date from me.

    • You call Rickards an idiot? You’re the idiot and the currency wars are ongoing. I’d bet that you haven’t read either of his books. Maybe you could find someone to read one to you.

  • Fred234

    For a different view read Martin Armstrong: armstrongeconomics.com

  • blu2

    Dear Little Oblivia, perception is not your strong suit. Neither is understanding of the timing of events or the order of things in an economic collapse. I strongly recommend that you read and THINK about what Jim Rickards is trying to warn you for your own good. Further, when, in the future you are proven wrong by the very events about which Mr. Rickards is warning, you are assigned to write a retraction and apology in this column for your short-sighted and foolish comments and your disrespect.

    • oblivia

      Rickards does not provide any information that’s useful to an actual investor — precisely because he has nothing to say about TIMING. When will the dollar collapse? Ask him.

      This nonsense is just fodder for the conspiracy theorists who buy his books.

      • Dave

        JP Morgan/Goldman troll. They are paid to come on here and spout unsubstantiated adolescent vitriol.

  • rbblum

    Sure would like a (continually updated) top 10 list of the individuals who are of Jim Rickard’s caliber. Perhaps Ludwig von Mises could determine and maintain such a list.

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