International Economy

Job Opening: Leader of the Free World

North Korean leader Kim Jong Un watches the test of a new-type anti-aircraft guided weapon system organised by the Academy of National Defence Science
North Korean leader, Kim Jong-un, watches the test of a weapon system in May, in a picture provided by North Korea's Korean Central News Agency. Source: Reuters

If North Korea launched a rocket at South Korea, who would negotiate a truce? If fighting broke out in one of the most important waterways in the world, a contested passage in the South China Sea that sees around one-third of all global trade pass through, who would sort things out? If Russia decided to defend the rights of Russian-speakers living in Moldova, then who could prevent them?

In the past, it might have been the Americans, criticized and lauded alike for playing the world’s policeman, to be first on the scene of any global emergency, upholding democratic values and protecting free trade.

But since the election of Donald Trump as president, the US has become a threat to global stability. Rather than extinguishing political crises, the Trump White House now seems to like to throw metaphorical gasoline on them.

But as yet, nobody else has applied for the post of “leader of the free world,” a job that so many US presidents have aspired to. Some have said that these days Germany’s Chancellor, Angela Merkel, is best placed to defend the global liberal, economic order. But it’s unclear as to whether Ms. Merkel really wants the job. Indeed, when Ms. Merkel was recently asked how she felt about being called the leader of the free world, the 62-year-old replied that she was honored but that that it was an absurd statement.

Political crises are toxic for the German economy. They interfere with trade routes, destroy international supply chains and isolate important markets.

Should Ms. Merkel be re-elected this September – and this is looking highly likely – she may well have to reconsider the position. In fact, German politicians and German society will be forced to take much more interest in the world’s myriad political crises – because all of them have the potential to threaten the global economy in general and the German economy in particular.

None of the world’s leading economies are as interconnected with the rest of the world as Germany’s. Almost a quarter of German jobs are directly – and half of them indirectly – dependent on exports. The country’s export rate, which measures the share of exports against total economic output, is 46 percent.

And political crises are toxic for the German economy. They interfere with trade routes, destroy international supply chains and isolate important markets. For a long time, Germany has cared more about exporting cars than ideology. And, due to the country’s history, the German military has been confined to defensive activities for decades. Although the country’s politicians may have been reluctant to take a more pro-active position in the past, cold, hard economic reality may well force them to over the next few years.

As always, there are many flashpoints that have the world on tenterhooks: North Korea, Turkey, Venezuela, Russians in Crimea and the Middle East. But as if to prove the point that things are worse than usual, investors are pulling back.

It’s significant that Ray Dalio, who heads the world’s largest hedge fund, Bridgewater, has sounded a retreat. In a letter to clients this month, he wrote that: “While I see no important economic risks on the horizon, I am concerned about growing internal and external conflict leading to impaired government efficiency and other conflicts.”

Mr. Dalio also argued that it wasn’t so much economic imbalances he feared, rather it was geopolitical crises. Earlier, Mr. Dalio, whose firm manages around US$160 billion, said that emerging risks were “more political than economic” and were not being priced in; he has also suggested that the Trump presidency and events like Brexit could signal the end of globalization.

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In this week’s interview with Handelsblatt, Ms. Merkel has presented the opposite view, outing herself as a steadfast proponent of globalization. But if Ms. Merkel’s mandate to rule is extended at the end of September, she may have to fight hard to maintain the global, economically interwoven status quo she supports.

“The most important channel through which political crises affect the economy is most certainly trade,” said Marcel Fratzscher, president of the German Institute for Economic Research in Berlin. Mr. Fratzscher pointed out that global trade has grown at a much slower pace than the global economy. “This is also the result of growing geopolitical risks,” he noted.

Ian Bremmer, the president of the Eurasia Group, a political risk consultancy, sees the world as being on the cusp of a “geopolitical recession” in international relations, an impending slump that can only be compared to the financial crisis of 2008. In case anyone had forgotten, Germany’s gross domestic product fell by more than 5 percent at that time.

The authors of the World Economic Forum’s Global Risk Report 2017, which surveys 750 analysts, concluded that the most important risk factors for the economy right now are political and cited Brexit and the election of Mr. Trump as major factors.

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The WEF’s experts pointed to widespread fears among the public of a loss of cultural identity and self-determination through migration, globalization and rapid changes in the economy and society at large. “This points to the need for reviving economic growth, but the growing mood of anti-establishment populism suggests we may have passed the stage where this alone would remedy fractures in society,” the report argued. “Reforming market capitalism must also be added to the agenda.”

“The fact that we are experiencing so many geopolitical crises at the moment is a reflection of growing nationalism,” Mr. Fratzscher said, referring to the protectionist economic stance taken by the Trump administration. “Economic protectionism is fueled by geopolitical crises.”

In Mr. Trump’s case, the reverse is also true. Economic nationalism also stokes geopolitical conflicts, for example with China.

For Mr. Fratzscher, the most important thing now is to protect free trade and the progress made in regulating global financial markets. “Economic policymakers must keep their borders open and ensure the stability of the global economy,” he said, adding that such a feat could only be accomplished on a global scale if everyone works together.

Obviously Germany must decide how much of the leadership vacuum it is prepared to fill. If Germany doesn’t step up, other countries will, and they may not share Ms. Merkel’s affection for globalization, the rule of law and Europe’s vaunted democratic values.

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Take Venezuela, for example. German businesses once made a fortune in this South American country but have since written it off almost entirely. Under President Nicolás Maduro, there is chaos and poverty in a country, that according to OPEC, holds the world’s largest reserves of oil. Meanwhile countries like Cuba, China and Russia have been all too eager to support Venezuela’s undemocratic rulers with personnel, expertise and credit.

EU neighbor Turkey presents a similar dilemma. President Recep Tayyip Erdogan has become increasingly autocratic since an attempted coup in July 2016. Turkey has formed a bulwark to stem the flow of refugees into Europe from the Middle East, and altering this has serious political repercussions for Ms. Merkel, where immigration issues saw her lose popularity in 2015.

But there’s far more at stake: Germany does a lot of business with Turkey: bilateral trade grew by 4 percent in 2016, to a new record of €37.3 billion ($44 billion). Germany is the second biggest foreign investor in Turkey, after the Netherlands.

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The largest foreign subsidiary of German energy supplier E.ON is based on the Bosporus. Siemens receives one government contract after the next from Ankara. The insurer Allianz opened an innovation lab in Istanbul to develop new products. And Turkish suppliers are an important link in the supply chain of German automobile manufacturers. Even in the textile industry, it’s almost impossible to circumvent Turkish producers.

With Russia, bilateral relations have been strained ever since the invasion and annexation of Crimea. Sanctions have weighed heavily on both the EU and Russia and bilateral trade has taken a significant hit, too, and has only recently begun to recover. After collapsing by about 40 percent, the volume of German exports to Russia bounced back 26 percent in the first six months of 2016.

The recent spat over the delivery of Siemens’ gas turbines to a Crimean power plant, in violation of EU sanctions, was the latest example of how difficult it is getting to do business with Russia.

North Korean dictator Kim Jong-un has engaged Mr. Trump in a heated, hyperbolic exchange. But the world’s problems with North Korea are also Germany’s, and one of the reasons is that neighboring South Korea, which North Korea regularly threatens, is a key import and export market for German firms. South Korean companies import $19 billion worth of goods from Germany.

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Additionally Korean companies play leading roles in some of the most important technology in the world, including lithium batteries and memory chips; Samsung, for example, has a virtual monopoly on organic light-emitting diodes.

There are different issues in the Middle East where regional conflicts pose a smaller threat to the German economy. After the nuclear agreement with Iran, German exports to that country jumped by 30 percent and now total €2.5 billion. Exports to Saudi Arabia are almost three times as high.

But the far greater threat in this region is geopolitical spillover. The civil war in Syria is a perfect example: A civilian revolution against a dictator turned into a brutal civil war, displaced millions and facilitated the rise of the extremist group known as the Islamic State. The fault line that started in Damascus has since traveled all the way to the heart of Europe, along with millions of refugees.

For Germany, this has mostly been a problem in terms of an ongoing influx of refugees. These could be good for Germany’s aging labor market but is, at the same time, politically divisive. Anti-immigration parties like the Alternative for Germany party benefited from this, as well as from the threat of Islamic terrorism. Although the risk of dying from cancer or in a road accident in the EU is still far higher than being killed in a terrorist event, a disproportionate amount of money and political will is spent on homeland security.

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“These are enormous sums that will then be missing elsewhere,” said economist Mr. Fratzscher.

It appears that this is a price that Germany will have to pay though. Military spending as a proportion of GDP is already rising in Germany and while the country will never have the diplomatic or martial heft of the US, Ms. Merkel, and all of her competitors in September’s election, still espouse “democratic values” in the richest country in the EU.

After years of diplomacy and consensus-building, marked by the occasional spot of economic bullying, a wealthy and comfortable nation and its leaders are at a difficult crossroads: Can the Germans muster the will – and can their pragmatic chancellor muster the passion – to stand up for something, even if it’s just to protect their own economic interests?

In a November 2016 speech announcing that she would run for the job of chancellor again, Ms. Merkel said that part of the reason she was standing again was because the world needed “sorting out.” How exactly she plans to do that remains to be seen. But it’s increasingly clear that it cannot be by doing business as usual.

 

By Alexander Busch, Ozan Demircan, Wolfgang Drechsler, Dana Heide, Martin Kölling, Torsten Riecke, Stephan Scheuer, Frederic Spohr, Carsten Volkery. Cathrin Schaer adapted this story for Handelsblatt Global. To contact the authors: riecke@handelsblatt.com

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