2016: The Year of Ungovernability (Part 2)

Article written by Fernando Betancor.


Europe stands as one of the epicenters of instability and the previous article in the series explored how the continent’s “peculiar institution” – a European Union that was neither European enough, nor unified enough, nor in any way democratic – was driving instability in its member states. One aspect of this instability comes from the success of Europe: the common market and currency has lowered the costs associated with being a small state, leading to the growing viability of secessionist movements in Catalonia, Scotland, Veneto, Flanders and other regions. But more of the disorder is being caused by efforts of the European institutions to deal with both the aftershocks of the 2008 financial crisis as well as the inherent disruptions caused by the Union itself. The fact that it is still doing so seven years after the onset of the crisis, while a more centralized union like the United States dealt much more successfully with the immediate effects of the speculative bubble, speaks to the imperfections of the EU’s institutions and its lack of adequate tools to deal with transnational issues. The efforts of the Union’s leaders to arrogate to themselves additional crisis resolution powers which the sovereign member states are not willing to give up through negotiation, treaty and referendum is itself another source of tension which threatens the European project.

The Western Hemisphere has not escaped the powerful forces unleashed by Discordia. Despite two vast oceans, the nations of the Americas are tied into the global economy as much as any other part of the world. More so than most: the transatlantic trade between NAFTA and the EU carries over half the world’s GDP. Many Latin American nations depend on the markets of Europe and – increasingly – Asia as their primary export destinations and as sources of investment capital. That is a two-way street: many European companies, especially Spanish and Portuguese ones, depend on Latin America for the majority of their increasingly slim profits. Companies like Spain’s Banco Santander and Telefonica are heavily exposed to Brazil and Mexico. Energy giant Iberdrola has hundreds of millions of Euros invested in hydroelectric power in the former country in partnership with Abengoa, whose Brazilian subsidiary has stopped making payments due to the failure of the parent organization. Chaos in these major emerging markets therefore has a very direct and efficient conduit to spread and exacerbate problems in other parts of the world.

Brazil is the largest market in Latin America, in terms of size, population and GDP. It has vast natural resources, an important industrial base and controls the Amazon River basin, a region the size of continental Europe, also known as the lungs of the planet. It is globally important; but it is also a country that has plunged into the worst recession in over a decade, is rocked by a political scandal that may very well bring down the government of Dilma Rousseff, and suffering a level of social violence and civil stress not usually seen outside of a warzone. As Brazilians knowingly say about their country: “Brazil is the land of the future…and always will be.”


The Brazilian economy enjoyed a long period of growth even as much of the rest of the world was stagnant or coping with the effects of the 2008 bubble. Thanks to the liberalizing policies of President Fernando Cardozo in the late 1990’s – policies which his leftist successor Luiz Inacio da Silva wisely continued – Brazilian businesses enjoyed a period of unprecedented prosperity and investment. President da Silva, or “Lula” as he is still affectionately known, added a layer of social protection and benefits to the equation and the effect was tremendous: more Brazilians were lifted out of poverty and into the middle class during the past 15 years than at any time in the country’s history. The bolsa familia, Lula’s meal voucher system, to get impoverished Brazilian children into schools and vaccinated remains a model for the rest of the developing world. These policies were not only socially and morally desirable; they fueled the growth of the internal consumption market, resulting in a boom in consumer spending, retail sales and financial services.

They also fueled the seeds of the current bust. Like most periods of spectacular growth, there was also rampant speculation, and the Brazilian property market became overheated. Add to this the effects of vast public spending on infrastructure to support the 2014 World Cup and the 2016 Olympic Games, and you have a property market and construction sector grown monstruous, ripe for implosion. Very much like the Brazilian national team, the canarinho, it was too good to be true; and the 7-1 drubbing by Germany in the semi-final match perfectly reflected the economic undercurrents already being unconsciously felt throughout the country.

A country awash in money is always going to suffer an increase in corruption, as filthy lucre greases every wheel and sweetens every deal. That occurs even in countries with strong institutions; but in a country with relatively weak public institutions and a poor track record at fighting corruption the rot can take on mythic proportions. So it was in Brazil, where revelations about the subversion of public officials by officers of Petrobras, the partially state-owned petroleum major, soon uncovered a vast and sordid network of bribery and influence that extended right through the Brazilian Congress and to the office of the President. Mrs. Rousseff, the hand-picked successor to the immensely popular Lula, is facing the possibility of impeachment. Only the fact that all of her rivals are almost certainly similarly tainted has so far prevented an unprecedented removal from office of a sitting President in Brazil.

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This is the most spectacular case, as it so visibly reaches to the top of the country’s political and business leadership. But corporate corruption and the abuse of power is so widespread and routine as to pass unmentioned, uncorrected and utterly immune from redress. Last November, the retaining dam for an iron mine burst in Minas Gerais province, releasing millions of gallons of toxic residue into the river. The iron sludge killed everything in the river and made its way to the Atlantic Ocean, where scientists fear for the impact on coastal marine life. So far, eleven people have died and another twenty one are missing; but the long-term health effects and ecological damage of this accident are incalculable. Mining giants BHP Billiton and Vale SA have created a fund to indemnify the state and residents with a billion dollars, a sum which is sure to fall far, far short of any objective estimate of the damages caused. No criminal investigation appears likely relating to criminal negligence for the deaths involved.

On a more mundane level, the low level warfare between police and gang members in the favelas of the major cities has reached new heights. One might have speculated that prosperity, social mobility and a burgeoning middle class would have reduced the violence, but the opposite seems to be the case. The greed for land for new housing, as well as stadiums and sports arenas, has turned a violent, decades long anti-narcotics fight into a war of expropriation against all the favela residents. That is not quite accurate: expropriation refers to the seizure of private property in the public interest; but most people living in favelas are squatters with no legal title to the land they have built their shanties upon and the purpose is the enrichment of private interests, not public ones. It is not an exaggeration to use the word “warfare” either: Brazil suffers from one of the highest fatality rates in the world and almost as many people have died there in firearms-related incidents in the past 5 years in than in the Syrian Civil War.

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The other major Latin American economy also faces grave threats; Mexico has powered along thanks to the relative strength of the US markets to which it enjoys free access. The country has performed so well that the net migration flows northward have not only ceased, but actually reversed; and this is due entirely to the improvement in economic prospects rather than the billions spent in securing the vast, porous border region. Yet all is not well; our southern neighbor remains vulnerable to a crisis which might again swell the ranks of economic refugees at a most dangerous time politically.

Mexican companies have taken advantage of the good times to expand their businesses, but this has left them with an enormous debt load, much of it dollar-denominated. This burden has now reached levels not seen since the 1994 “tequilazo”, a fiasco whose lessons too few now remember or heed. Adding to their misery, the Mexican peso has been falling sharply against the US dollar, and the Fed’s intention to raise rates will only turn the flow into a torrent. Heavily indebted companies are rushing headlong towards a tremendous default; indeed, Mexico’s largest construction company ICA missed a 31 million dollar bond payment in December.

Another weakness is the drastic fall of oil prices, which are not only ravaging state-owned PEMEX’s financial statements, they are also gutting the federal budget of the Mexican state. Fully xx% of its revenues come from oil; and with the fall in fiscal revenues, there will also be a fall in social services, cuts in the already meager pay for public servants. Social relations in Mexico remain fragile and Mr. Peña Nieto is not the most popular President among students, teachers or unionized workers. He is viewed as a callous, elitist oligarch; a wealthy and successful businessman, to be sure, but not one who is particularly knowledgeable of or sympathetic to the plight of the lower and middle classes.

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Mexico is a dangerous place, even in the good times. Since the escalation of the drug war under President Felipe Calderón, a policy continued under Mr. Peña Nieto, the downwards trend in the homicide rate swiftly soared back to levels not seen since 1960’s. The already vicious turf wars between the drug cartels to control the most lucrative smuggling routes into the United States grew worse as the state’s new enforcement efforts destroyed the delicate balance of power between rivals, leading to fragmentation and an intensification of the murderous conflict. It also lead to the introduction of new players, including the infamous Zetas: a group of former Mexican special forces who decided they were on the wrong team financially, and quickly grew to become a powerful cartel themselves through  the most brutal and violent tactics imaginable. It is highly probable that the Zetas have decapitated more victims than ISIS and they are responsible for an orgy of such violence against civilians that it would make Attila puke.

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This instability is likely to grow as the Mexican state weakens fiscally. Should the country descend into a full-blown financial crisis at the same time, the consequences could be very dire. More than one foreign policy expert has darkly applied the term “failed state” to Mexico and though that is too extreme a description by far, there is no doubt that the country could find itself in serious disorder. The fallout from this would hit the US hard, both economically and politically. Many American companies have important parts of their supply chain running through Mexico thanks to its proximity and increasing cost competitiveness vís-a-vís China. There could be important disruptions if these maquiladoras failed due to suspended payments or called-in loans during a full-fledged liquidity crisis. There would also be a renewal of migration flows to the north; perhaps not to the level of the 1980’s and 1990’s, but any increase would meet with hostility and resistance from a disgruntled and fearful American population. It would come at a very bad time for the US politically, with Donald Trump already fanning the flames of xenophobia, nativism and hatred for his own benefit.

For the United States is also troubled. “Ungovernable” is not yet a word that accurately describes the government of our long-lived Republic, but we are not far from it. The process of political polarization has many roots – demographic change, economic deterioration, political corruption and influence peddling – but regardless of the causes, the US polity has never been more split or had so little overlap. No other advanced nation has twice been brought to the brink of shut-down and default due to the inflexibility and inability to compromise of the legislature. No other advanced economy has spent so little on vital public infrastructure projects due to the ideological inflexibility of one of its dominant parties. Donald Trump, the political outsider who has rattled the ruling elites of the Republican Party, is not an outlier: he is a sign of things to come.

Things will get worse in American politics before they get better.

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Hardline conservatives never tire of lambasting President Obama, accusing him of everything from falsifying his birth certificate to Deucalion’s Flood, and warning their followers of the threat of a “socialist revolution” by those darned Democrats and the Birther-in-Chief; yet the real threat to America and the Constitution is of revolution from the right. The FBI was warning of the danger of right-wing radicalism since the early 1990’s, even before Timothy McVeigh and his “Patriots” blew-up the Oklahoma City Federal Building along with 17 children in 1995. The horror of that act provoked revulsion among many like-minded “Patriots”; and the 8 tedious years of the Bush Jr. Administration gave these people little reasons to act publicly. The election of a Democrat – a black Democrat with a name like Barack Hussein Obama – was confirmation of their worst fears, as if the boogeyman had not only come out of the closet and proven his reality, but been elected Commander-in-Chief. Bottom rail on top, massa. The FBI suddenly had right-wing violence back on its radar: until a Congress led by the Tea Party cut-off funding and eliminated the unit that was responsible for monitoring domestic extremist groups.

While the Oregon militia stand-off may be playing out as farce, the implications remain serious: for armed men to seize a federal building is legally rebellion. President Obama has wisely decided not to make martyrs out of yahoos, and it is likely that the entire incident will be settled peacefully enough. But it is a far more serious business when the Governor of Texas issues a warning that his state may be in the process of being invaded by the US military (Jade Storm); or if that same Governor revives Henry Clay’s pernicious doctrine of “nullification”, calling for a Constitutional amendment that would allow states to ignore whichever federal laws they choose to. Texas is, perhaps, sui generis; but it is merely echoing the widespread sentiments of the radical right. In Germany, in the 1920’s, these were the beerhall politics that led to Hitler.

Meanwhile, the American economy remains remarkably weak. Unemployment is not at the official figure of 5%; if you add back in all the people who have left the job market, it is closer to 7%. Our financial system is weaker today than it was in 2008; the banks are even bigger now since there was so much consolidation, both forced and unforced, during the Great Recession. The derivatives market is as vast and under-regulated as the securitization market was in the run up to the crash. At almost $505 trillion of notional principal it vastly dwarfs the $17 trillion of US GDP. This wonderfully complex and dangerous edifice is supposed to be regulated by the Dodd-Frank Act to ensure that there cannot be a repeat of 2008. In fact, Dodd-Frank is an undecipherable monstrosity: 2,000 pages of legalize that no one completely understands and parts of which will never be put into practice due to their complexity. It replaces the Glass-Steagall Act, passed in 1935, in the wake of another financial crisis: 35 pages long, Glass-Steagall kept the country free of financial shocks for almost 50 years until the Reagan and Bush Sr. Administrations dismantled it[1] and the Clinton Administration gave it the coup de grace[2].

The US economy is ripe for a fall and the Federal Government no longer has much room to take on vast amounts of new debt, as it did from 2008 to 2012. All of our policy tools have been engaged and are no longer available: a repeat of the Great Recession in 2016 would thus most likely lead to the first sovereign default in US history, which would be pretty bad. None of the Republican candidates for President have offered any plan to address, much less resolve, this glaring and obvious threat; but in fairness to them, only Bernie Sanders among the Democrats has raised the issue and proposed a solution[3]. Front-runner and former Senator from New York Hillary Rodham Clinton has not endorsed a return to Glass-Steagall, perhaps afraid to anger her Wall Street constituents/contributors. It therefore doesn’t matter who wins the election in November: because of the power of the banks and the thorough corruption of our politics, the financial system will remain unreformed in 2016, a man running down a bumpy road with a bottle of nitroglycerin strapped to his forehead.

[1] Starting with the Depository Institutions Deregulation and Monetary Control Act of 1980 and continuing with the Garn-St. Germain Depository Institutions Act of 1982. This deregulation, far from helping the US financial sector, drove the already struggling savings-and-loans industry right into the ground in the largest financial crisis until that time since the Great Depression.

[2] The Gramm-Leach-Bliley Act of 1999, also known as the “Citibank Act” due to the perception that Citi used all of its considerable political influence to have the act passed so it could merge with Travelers, an illegal combination under Glass-Steagall

[3] Reimpose Glass-Steagall and break-up the TBTF banks

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