A political conundrum

Published: Nov 2014

Markets are paying increasing attention to political developments. They seem to have become equally (or even more) sensitive to opinion polls, election results, and other political news than to economic data. Markets can be merciless when out to ‘get’ disappointing politicians. At the same time, they can be over optimistic about leaders who seem to be pushing for reforms.

What the markets crave are leaders with fresh ideas. The growth model – based on high commodity prices, low interest rates, excessive indebtedness, and rising globalisation – has come under pressure in recent years. Unfortunately, politicians are increasingly mired in a web of geopolitical hazard, disappointing economic growth, and domestic political stagnation.

American scientist Thomas Sowell said about politics, “there are no solutions; there are only trade-offs.” It is always a matter of weighing the pros against the cons, negotiating with opponents, pandering to grassroots supporters, and so on. Eventually, the preferred solution morphs into a warped, distorted, and rough-edged outcome of political struggle and strife, a compromise, in other words. Such a trade-off can work reasonably well but the result often falls far short of the original points of departure. It can even exacerbate the existing problems.

In the recent past, the political system of the world’s largest economy (and most powerful country) has produced neither real solutions nor feasible compromises. US Democrats and Republicans seem to have each other in a hold. The consequences can be outright disastrous (see last year’s government shutdown). “There are no solutions; there are only partisan battles,” seems a fitting description of Washington’s status quo.

Political paralysis

The US is far from the only nation state where democratic processes falter. Many European countries suffer from political paralysis, not least because of the rise of populism since the 1990s, which appears to have accelerated in recent times. Perhaps it is worth remembering that today’s unrest is more ‘normal’ than the relative political stability of recent decades, when a limited number of well-established parties would take turns in office, resulting in respectable but boring predictability within rigid political structures.

Populism gained ground due to major trends which cannot be reversed easily and make it harder for politicians to do what their voters want them to do. Globalisation is one of the root causes. Upcoming generations are no longer assured of higher living standards. Simultaneously, the comfort provided by a secure national identity has been eroded due to immigration, international organisations, and fading borders. According to many experts, globalisation also has a hand in increased inequality. The populist countermovement has focused on issues ranging from ‘unique national identities’ to aversion against (central) government. In Europe, these tendencies are also represented by the Eurosceptic and anti-EU parties.

Populism is not necessarily negative, though. Just as a recession can counteract morbid economic growth, or clean up a business sector, populist outpourings could serve to ‘disinfect’ a corrupt and stilted political system. A major challenge for politicians is to make distinctions between well-founded dissatisfaction and rabble-rousing, deception, and blatant racism. Ideally, they should address justified complaints and passionate populist protests through the implementation of sound reforms.

Chart 1: US income inequality has grown significantly in the past decades
Chart 1: US income inequality has grown significantly in the past decades

Source: Thomson Reuters Datastream/ECR

The problem is that the political elite are mostly incapable of harnessing and channelling populism in a constructive manner. At the same time, a significant number of populist politicians just seem interested in kicking up disturbances and amassing power at the expense of the disenfranchised, based on a dangerous distortion of the facts. An apt term to describe the current situation, coined by the late political scientist Samuel Huntington, is ‘political decay’.

Political institutions need to be securely embedded in society to provide firm foundations for the latter. At the same time, they have to be flexible enough to zero in on and adapt to political, social, and economic trends. This is a delicate equilibrium, which seems to have been upset in the US (and elsewhere). Lobbyists and special interest groups have ‘hijacked’ the political system whereas the common good is woefully underrepresented. On top of this, an overactive legal apparatus has a crippling effect on politics and society as a whole, in the sense that (too) many issues end up in court whereas judges are increasingly inclined to interfere in affairs of state. That is to say, the different branches of government no longer balance each other out. On the contrary; they increasingly overlap and obstruct each other. Francis Fukuyama talks of ‘vetocracies’, which lead to political deadlock.

At the opposite side of the spectrum, we see that governments perform tasks that are not supervised by anybody. This applies, for example, to some intelligence services and military units.

Confused and dismayed by these extremes – impotent politics versus unrestricted powers for the state – the public distrusts politicians progressively more. As a result, it demands rules that hamper efficiency. In addition, people are less and less prepared to pay taxes as they suspect that the money will disappear into a (bureaucratic) black hole. This is all the more dangerous because voters have high expectations of the government.

European politicians, too, have plenty of worries; dangerous types of populism seem firmly entrenched. But that is just the tip of the iceberg. As the EU continues to expand, Europe starts to resemble the United States, where interest groups have a grip on politicians. In Europe, the judiciary has also become more important.

The challenge ahead

Faltering politics is not something that will change any time soon. Few politicians – if any – will voluntarily say goodbye to the capital flows generated by the lobby groups and of course anyone with a ‘special interest’ will try to keep the system afloat for as long as possible. In addition, both the US and Europe often see further democratisation as the solution to erratic politics. It remains to be seen if this is a valid standpoint. Most ‘normal people’ do not have the time (or the inclination) to study complicated political topics, which works to the advantage of those interest groups that have plenty of time, money, and capabilities to scrutinise and influence political processes.

Democracy is unlikely to function better in the near future. It appears that only an external shock can bring politicians and the electorate to their senses. Yet, it is imperative that Western politicians wake up to reality. Geopolitical challenges and economic shifts are putting pressure on the existing world order. The West faces three major challenges right now: the rise of Asia, an assertive, some would say aggressive Russia, and the violent advance of IS/ISIS and other extremists.

Chart 2: Corporate profit growth at the cost of wages contribute to US political unrest
Chart 2: Corporate profit growth at the cost of wages contribute to US political unrest

Source: Thomson Reuters Datastream/ECR

The US is essential to addressing these challenges. However, America seems increasingly unwilling and unable to resume its former role as the world’s policeman while at the same time many other countries still depend too much on Washington for security and leadership. At the same time, the organisations that were thought up and dominated by the West still constitute the global order. Presently, Putin and IS are testing the strength of this order. In this uncertain climate, it would be unrealistic to expect convincing solutions to pervasive political and economic problems. The compromises that evolve are far from satisfactory.

The West will not quickly find an adequate answer to Russia’s attitude and the violent emergence of ISIS. Nor do we expect a great deal from domestic reforms. Over the short term, the actions and words of the central banks may continue to drive the markets. Meanwhile, geopolitical events will pose a constant threat. Nothing suggests that the West will be able to counter these risks in a satisfactory manner.

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