Rabobank: The Nuclear Options

By Michael Every of Rabobank

The Nuclear Options

“Now I am become death, the destroyer of worlds”.

The Financial Times lead story this weekend was that US allies are lobbying the White House NOT to shift to a “No First Use” (NFU) nuclear policy. After Afghanistan, this is another enormous shock for an ostensibly “America is Back” administration. Military strategists back to Vegetius (“Si Vis Pacem, Para Bellum”) stress America’s nuke stockpile underpins its military might; and Korea, Southeast Asia, the Middle East, and Central Asia aside, that is still what prevents more wars more often everywhere else. If the US moves to NFU, any other power can do whatever it wants short of nukes, and the US can only respond with already-overstretched conventional power. Consider that as Russia again builds up forces near Ukraine; when looking at tensions in the South China Sea; and when China’s Global Times runs an editorial, “US should announce ‘no first use of nuclear weapons,’ with no strings attached”. There are always strings attached to shifts in such existential policies: markets would be well advised to understand the implied volatility.

Meanwhile, Poland will double the size of its army to 300,000, making it the largest in the EU. That’s a key signal about what a country with a keen historical grasp of the existential dangers of geopolitics feels is now necessary.

Word is that French President Macron wants to send a signal that there are consequences for the UK leaving the EU, and the current fishing row could soon involve a go-slow to throttle UK supply chains further. The Sunday Times reports the UK is considering a massive infrastructure spend in response, to shift trade away from Calais-Dover to other EU-UK routes. (And Macron is also openly calling Aussie PM Morrison a liar re: AUKUS.)

The US and EU struck an agreement to suspend steel and aluminum tariffs and to start work on a new Global Sustainable Steel Arrangement. “This marks a milestone in the renewed EU-US partnership,” say the Europeans. The critical point is not the lower tariffs: it is that the US and EU are cooperating on a new green/anti-dumping standard for steel and aluminium that, as US President Biden stated, will “restrict access to our markets for dirty steel, from countries like China.” As the EU’s Dombrovskis put it: “We hope to restrict market access for non-participants who do not meet conditions for market orientation or do not meet the standards for low-carbon intensity products. But we will do this compatible with our international obligations and multilateral groups.” If this approach works, expect it to be rolled out on other fronts. That is called decoupling.

Politico also reports the US is considering reducing tariffs on some non-essential Chinese imports – but greatly increasing them in sectors seen as crucial to national security. And in the background, the ‘Make in America to Sell in America Act’ introduced to Congress would see the US impose a 50% local input requirement on areas of critical economic security to ensure the entire nexus of industrial supply chains is re-shored. That is unlikely to pass; but something like it could still be what eventually comes to pass on the present trend. In the meantime, the economic impact of supply-chain snarls is already worsening.

The port of LA/Long Beach is to start the countdown with its new $100 a day per container rule, which applies for rail shipments three days from now and trucks in nine days. These fees rise daily: e.g., a 10,000 TEU ship faces a 10,000 * $100 = $1m fee on day 1 its cargo is still stuck in the port (i.e., NOT in the ship!); 10,000 * $200 = $2m on day 2; 10,000 * $300 = $3m on day 3, etc. If they get delayed 3 weeks, the total bill will be $231m, which works out as $23,100 per TEU. That more than doubles the already-high cost of ocean carrying.

Back in Asia, China’s PMIs showed a dip in manufacturing to 49.2 and services fell to 52.4. True, as coal flows, energy supplies will be restored to factories, so US logjams will get worse: unless the products made don’t have the US and EU markets they had assumed.

The White House is calling on OPEC+ to produce more oil in order to bring US energy prices down: there are even reports it is “considering its options” if they refuse to do so. Note the US was until recently energy independent, and is only begging other countries to pump more oil because of its own decision to rush for a green transition before it could walk.

On which, the G20 just concluded a “net zero” carbon statement ahead of the private-jet-and-motorcade frenzy of COP26 which even Boris Johnson admits is “too vague” and “not enough”. It set no date for phasing out coal and has no new deadline for ending fossil fuel subsidies. Given the G20 have spoken, and not acted, should we perhaps cancel COP26 and save all the carbon that will expended on it? As an aside, one wonders when the nuclear option will be accepted as necessary as part of the green push: yes, it can go very wrong – but have you ever seen what can happen with hydrogen? Even post-Fukushima Japan, where PM Kishida has just won re-election, is considering it.

Shifting to food, our research team reports, ‘Farm Margins Squeezed From Every Angle’ – and from soaring fertilizer prices in particular, linked back to energy costs. That is likely to mean even more expensive food ahead, which is always highly explosive.

And, as a potential final bang, Facebook’s transformation into ‘Meta’ may be challenged by none other than Yanis Varoufakis, who was already using the name for an anti-imperialist and anti-capitalist website: oh, the irony – ‘Meta’ really is Second Life! That’s as the first incarnation sees Politico report: ”Doors across Capitol Hill are shutting on Facebook’s army of lobbyists as the company tries to move past one of its most serious political crises ever.”

But having covered the real economy, let’s all get back to a central bank focus, and watch for yield curve (flattening) and FX (USD rising) signals as to just how much ordnance they are prepared to drop *on themselves* if it means also taking out any potential risk of entrenched higher wage growth ahead:

“I say we take off and nuke the entire site from orbit. It’s the only way to be sure.”