Though China has been the global economic star of the last low-growth decade, it remains a totalitarian dictatorship, with its economy shrouded in state secrecy. What we’re encountering in this crisis is the spectacle of a closed society colliding with the forces of complex, free-market capitalism. If we look beyond China, we can find a long history of these collisions, dating back hundreds of years, as both closed societies and capitalism evolved and became more complex. And the history has a clear but unsettling lesson to offer: When such a collision happens, it’s a moment to genuinely worry. ... Since the dawn of capitalism, closed societies with repressive governments have — much like China — been capable of remarkable growth and innovation. Sixteenth-century Spain was a great imperial power, with a massive navy and extensive industry such as shipbuilding and mining. One could say the same thing about Louis XIV’s France during the 17th century, which also had vast wealth, burgeoning industry and a sprawling empire. ... But both countries were also secretive, absolute monarchies, and they found themselves thrust into competition with the freer countries Holland and Great Britain. Holland, in particular, with a government that didn’t try to control information, became the information center of Europe — the place traders went to find out vital information which they then used as the basis of their projects and investments. The large empires, on the other hand, had economies so centrally planned that the monarch himself would often make detailed economic decisions. As these secretive monarchies tried to prop up their economies, they ended up in unsustainable positions that invariably led to bankruptcy, collapse and conflict. ... China is a new case, for it has mixed capitalism and totalitarianism in a unique way. ... The government may not be able to control the stock market, but it does successfully keep a veil over state finances. This is what closed, authoritarian governments have done since the 16th century. ... what we are seeing in this current financial crisis is likely to be only the beginning of the political and societal crisis brought about by a dictatorship’s efforts to simulate the performance of a capitalist economy — but one that only grows. ... There is no historical example of a closed imperial economy facing large capital-driven, open states and sustainably competing over a long term.

When the U.S. Civil War broke out in 1861, cotton was king. The southern United States produced and exported much of the world’s cotton, England was a major textile producer, and cotton textiles were exported from England around the world. At the time, many around the world depended on cotton for their livelihood. The South believed this so deeply that when the North blocked Southern ports to cut off the South’s primary means of financing war—cotton sales—Southern leaders were sure that Britain would enter the war on their side. That never happened. So when cotton supplies dried up in late 1862, thousands in Manchester and Lancashire who either directly or indirectly depended on cotton for a living found themselves without work. In this post, we describe the British cotton famine of 1862-63 and the stoic British national response. We draw primarily from a fascinating BBC Radio broadcast on the subject and John Watts’ matter-of-factly named Facts of the Cotton Famine, published in 1866.

1. The Hollow Alliance: The trans-Atlantic partnership has been the world’s most important alliance for nearly seventy years, but it’s now weaker, and less relevant, than at any point in decades. It no longer plays a decisive role in addressing any of Europe’s top priorities. Russia’s intervention in Ukraine and the conflict in Syria will expose US-European divisions. As US and European paths diverge, there will be no more international fireman—and conflicts particularly in the Middle East will be left to rage.
2. Closed Europe: In 2016, divisions in Europe will reach a critical point as a core conflict emerges between Open Europe and Closed Europe—and a combination of inequality, refugees, terrorism, and grassroots political pressures pose an unprecedented challenge to the principles on which the new Europe was founded. Europe’s open borders will face particular pressure. The risk of Brexit is underestimated. Europe’s economics will hold together in 2016, but its broader meaning and its social fabric will not.
3. The China Footprint: Never has a country at China’s modest level of economic and political development produced such a powerful global footprint. China is the only country of scale today with a global economic strategy. The recognition in 2016 that China is both the most important and most uncertain driver of a series of global outcomes will increasingly unnerve other international players who aren’t ready for it, don’t understand or agree with Chinese priorities, and won’t know how to respond to it.
4. ISIS and “Friends”: ISIS is the world’s most powerful terrorist organization, it has attracted followers and imitators from Nigeria to the Philippines, and the international response to its rise is inadequate, misdirected, and at cross purposes. For 2016, this problem will prove unfixable, and ISIS (and other terrorist organizations) will take advantage of that. The most vulnerable states will remain those with explicit reasons for ISIS to target them (France, Russia, Turkey, Saudi Arabia, and the United States), and those with the largest numbers of unintegrated Sunni Muslims (Iraq, Lebanon, Jordan, Egypt, and across Europe).
5. Saudi Arabia: The Saudi Kingdom faces a growing risk of destabilizing discord within the royal family this year, and its increasingly isolated status will lead it to act more aggressively across the Middle East this year. The threat of intra-royal family strife is on the rise, and a scenario of open conflict, unimaginable prior to King Salman’s January 2015 ascension, has now become entirely realistic. The key source of external Saudi anxiety is Iran, soon to be free of sanctions.
6. The rise of technologists: A variety of highly influential non-state actors from the world of technology are entering the realm of politics with unprecedented assertiveness. These newly politically ambitious technologists are numerous and diverse, with profiles ranging from Silicon Valley corporations to hacker groups and retired tech philanthropists. The political rise of these actors will generate pushback from governments and citizens, generating both policy and market volatility.
7. Unpredictable Leaders: An unusually wide constellation of leaders known for their erratic behavior will make international politics exceptionally volatile this year. Russia’s Vladimir Putin and Turkey’s Recep Tayyip Erdogan are leaders of an unruly pack that includes Saudi Arabia’s Deputy Crown Prince Mohammed bin Salman and – to a lesser but important extent – Ukraine’s Petro Poroshenko. These unpredictable leaders make our list for 2016 because their interventions overlap and conflict. One powerful, erratic leader spells trouble; four spell volatility with major international implications.
8. Brazil: President Dilma Rousseff is fighting for her political survival, and the country’s political and economic crisis is set to worsen in 2016. Contrary to hopes among pundits and many market players, the battle over Rousseff’s impeachment is unlikely to end the current political stalemate. Should the president survive, her government won’t gain the political boost necessary to move on the economic reforms needed to tackle the country’s growing fiscal deficit. If Rousseff is ousted, an administration led by Vice President Michel Temer won’t fare much better.
9. Not enough elections: Emerging markets underwent a historic cycle of national elections in 2014-2015, but this year there are relatively few opportunities for EM voters to make themselves heard at the ballot box. As slower growth and stagnating living standards stoke popular discontent, governance and stability will suffer. Historically, markets have been less volatile in non-election years, but this time will be different. By raising popular expectations, the massive income growth that most EMs enjoyed over the past 10 years has created conditions for a rude awakening.
10. Turkey: After a decisive victory for his AK party in late-2015, President Erdogan will now push to replace the country’s parliamentary system with a presidential one. He’s unlikely to reach his goal in 2016, but his aggressive electioneering will further damage an already battered Turkish business and investment climate. On the security front, there is little prospect of an imminent end to PKK violence, and unrelenting US pressure on Ankara to clamp down on the Islamic State will produce only modest results while making Turkey more vulnerable to new attacks by ISIS.
* Red Herrings: US voters aren't going to elect a president who will close the country to Muslims. China’s economy isn’t headed for a hard landing, and its politics will remain stable. Continued strong leadership from Japan's Shinzo Abe, India's Narendra Modi, and especially China's Xi Jinping will keep Asia's three most important players focused on economic reform and longer-term strategy, reducing the risk of conflict in Asia’s geopolitics.

As it turned out, I stayed with Sandy Rendel in his cave for over a month. It was perched near a handy spring in the Lasithi mountains above the village of Tapais in Eastern Crete. Smoky, draughty and damp, but snug with strewn brushwood under the stalactites, it was typical of several lairs dotted about the island, each sheltering a signal sergeant, a small retinue of Cretan helpers and one each of a scattered handful of heavily disguised British Liaison Officers. ... It was a game of hide-and-seek usually ending in a disorderly bunk to a new refuge in the next range. We could not have lasted a day without the islanders’ passionate support: a sentiment which the terrible hardships of the occupation, the execution of the hostages, the razing and massacre of villages, only strengthened. ... I put forward to the powers in SOE the suggestion of kidnapping General Müller. He commanded the 22nd Bremen (‘Sebastopol’) Panzergrenadier division based on Herakleion. It was the sort of action we all needed in Crete, I urged. The General was universally hated and feared for the appalling harshness of his rule: the dragooning of the population in labour-gangs for the aerodromes, mass shooting of hostages, reprisal destruction of villages and their populations, the tortures and the executions of the Gestapo. The moral damage to the German forces in Crete would be great; a severe blow to their self-confidence and prestige.

Bir Tawil is the last truly unclaimed land on earth: a tiny sliver of Africa ruled by no state, inhabited by no permanent residents and governed by no laws. To get there, you have two choices. ... The first is to fly to the Sudanese capital Khartoum, charter a jeep, and follow the Shendi road hundreds of miles up to Abu Hamed, a settlement that dates back to the ancient kingdom of Kush. Today it serves as the region’s final permanent human outpost before the vast Nubian desert, twice the size of mainland Britain and almost completely barren, begins unfolding to the north. ... The second option is to approach from Egypt, setting off from the country’s southernmost city of Aswan, down through the arid expanse that lies between Lake Nasser to the west and the Red Sea to the east. Much of it has been declared a restricted zone by the Egyptian army, and no one can get near the border without first obtaining their permission. ... Both nations have renounced any claim to it, and no other government has any jurisdiction over it.

Sometime in 1882, a skinny, dark-haired, 11-year-old boy named Harry Brearley entered a steelworks for the first time. A shy kid—he was scared of the dark, and a picky eater—he was also curious, and the industrial revolution in Sheffield, England, offered much in the way of amusements. He enjoyed wandering around town—he later called himself a Sheffield Street Arab—watching road builders, bricklayers, painters, coal deliverers, butchers, and grinders. He was drawn especially to workshops; if he couldn’t see in a shop window, he would knock on the door and offer to run an errand for the privilege of watching whatever work was going on inside. Factories were even more appealing, and he had learned to gain access by delivering, or pretending to deliver, lunch or dinner to an employee. Once inside, he must have reveled, for not until the day’s end did he emerge, all grimy and gray but for his blue eyes. Inside the steelworks, the action compelled him so much that he spent hours sitting inconspicuously on great piles of coal, breathing through his mouth, watching brawny men shoveling fuel into furnaces, hammering white-hot ingots of iron. ... There was one operation in particular that young Harry liked: a toughness test performed by the blacksmith. ... young Harry became familiar with steelmaking long before he formally taught himself as much as there was to know about the practice. It was the beginning of a life devoted to steel, without the distractions of hobbies, vacations, or church. It was the origin of a career in which Brearley wrote eight books on metals, five of which contain the word steel in the title; in which he could argue about steelmaking—but not politics—all night; and in which the love and devotion he bestowed upon inanimate metals exceeded that which he bestowed upon his parents or wife or son. Steel was Harry’s true love. It would lead, eventually, to the discovery of stainless steel.

What made the case fascinating—what had the entire London financial scene watching and waiting for the precedent it might set—was that the defendants’ version of events wasn’t so different from that of the prosecution. Parvizi and the others acknowledged joining up to trade. They acknowledged disguising their activities with encrypted devices and burner phones. But, they maintained, they’d never knowingly traded on information that was, legally speaking, “insider.” The men said their investments, even those that were incredibly well-timed, stayed on the legal side of the line between privileged information and well-informed rumor. ... The trial ran for four months, and at times Courtroom 3 became a circus. Anderson suffered a heart scare after two days on the stand, repeatedly delaying the proceedings. A reality-TV star sat in the audience. Harrison, making the most of the judge’s direction that the men could come and go as they pleased, barely showed up. Parvizi maintained his cool, even when his character was being savaged. During cross-examination, the lead prosecutor observed that lying appeared to come easily to him. Matter-of-factly, Parvizi replied, “Of course.”

All we know at this point in time is that Brexit will (probably) happen at some point over the next 2-3 years, but we still have no idea what the actual implications will be. ... In that context I note that it has taken Canada ten years to negotiate their free trade agreement with the EU, and that was prioritised by the EU negotiators. The EU have already declared that the UK will not be prioritised. On top of that, the UK will now have to negotiate trade agreements with pretty much every country around the world that it does business with – a monumental task, and the legal resources to do that job do not exist, according to a government official. ... As events unfolded, it would probably be fair to say that the vote wasn’t really about what it was supposed to be about; that got lost along the way. No, it turned into a referendum for or against immigration and a protest vote against Brussels and London. The amount of bitterness in large parts of the country – and in particular in the North – is such that many saw the referendum as an opportunity to give Brussels and London (or at least the elite in those cities) a slap in the face. ... Now, a couple of weeks after the referendum, we are admittedly in a bit of a dilemma – almost akin to a prisoner’s dilemma. The more financial markets puke over the next few months, the more likely lawmakers on both sides are to forget past disagreements and insults, and work on a solution that would keep the UK in the EU. On the other hand, if financial markets get a whiff of something about to happen - a possible compromise solution – financial markets will perform better, and thus make it less likely to happen.

All we know at this point in time is that Brexit will (probably) happen at some point over the next 2-3 years, but we still have no idea what the actual implications will be. It all depends on the forthcoming negotiations between the UK and the EU (and the rest of the world), and David Cameron and Boris Johnson probably both did the wise thing and chickened out, because that isn’t going to be much fun. ... In that context I note that it has taken Canada ten years to negotiate their free trade agreement with the EU, and that was prioritised by the EU negotiators. The EU have already declared that the UK will not be prioritised. On top of that, the UK will now have to negotiate trade agreements with pretty much every country around the world that it does business with – a monumental task, and the legal resources to do that job do not exist, according to a government official. ... As events unfolded, it would probably be fair to say that the vote wasn’t really about what it was supposed to be about; that got lost along the way. No, it turned into a referendum for or against immigration and a protest vote against Brussels and London. The amount of bitterness in large parts of the country – and in particular in the North – is such that many saw the referendum as an opportunity to give Brussels and London (or at least the elite in those cities) a slap in the face.

Charles and John Deane, brothers born four years apart, grew up in a foul dockyard precinct on the edge of London. A former fishing settlement on the Thames, the area had been swallowed by Europe’s largest city. By 1800, it had become a squalid reach of maritime activity and drinking establishments overlooking a fetid waterfront. ... the Deanes’ royal titles and estates had long since been squandered by the time Charles and John were born; their father toiled as a caulker, patching seams in the hulls of ships that his forebears once designed. ... many daring divers had attempted to retrieve sunken treasure in a variety of contraptions—wooden containers, copper jackets, metal canisters. Some died. Others were crippled. ... The Royal George sat in waters about 80 feet deep. At that depth, a pressure differential could create suction 10 times stronger than a modern vacuum cleaner. That might not be strong enough to rip off a face and suck it through an air hose, but it would certainly cause permanent damage or death, as was the sad fate of William Tracey and many others that came after him. ... The brothers were learning hydrodynamics by trial and error, and the crowd got a good show.

Williams’ discovery of the mysterious block was followed by dozens of reports of similar findings on beaches across western Europe. The blocks, materializing from the Atlantic surf, would cast the spotlight on gutta percha, a Victorian commodity whose obscurity belied its crucial place in modern communications. The humble latex would accelerate global telecommunications to a previously unimagined pace; cement the British empire’s grip over the world’s critical messaging systems; and spur industry and academia to devise some of the foundational theories of modern physics. ... The Victorian system of submarine cables literally laid the foundation, in many cases, for today’s fiber-optic networks. The globe-spanning networks of the day spawned business titans, and technological innovators, that bear close parallels to today’s internet-enabled tycoons. Gutta percha was largely replaced by polyethylene by the 1950s, ending a century of industrial telecommunications use. ... in 1832, a Scottish surgeon stationed in Singapore with the East India Company named William Montgomerie wrote a paper about gutta percha’s unique properties: it could be moulded in hot water but it hardened as it cooled. ... It was as if the Elon Musks or Steve Jobs of the day were all focused on the same, potentially world-altering technology. ... Pender’s businesses left a legacy. Vestiges of his cable empire live on in today’s telecom conglomerates. His firms formed the core of Cable & Wireless

We view Donald Trump’s ascendancy to the Presidency of the U.S. as confirmation of a political and economic paradigm shift that started with Brexit but is likely to continue for the foreseeable future, including elections across Europe in 2017. Consistent with this view, we believe that there are four major potentially secular changes that all investment professionals must consider: fiscal stimulus over monetary, domestic agendas over global ones, deregulation over reregulation, and a broadening of outsized volatility from the currency markets to include global interest rate markets. The good news is that many of our highest conviction investment themes for 2016, including the ongoing slowdown in global trade, had already begun to capture this sea change in macro and geopolitical trends. At the same time, however, in certain areas our macro preferences have evolved of late in response to the “new” reality that we now live in. As such, we have used this outlook piece to challenge conventional investment wisdom, and in some instances, “adjust our sails.” In terms of asset allocation preferences for 2017, we are still probably most excited by what we see in Private Credit on a risk-adjusted basis. We also believe that Real Assets, particularly those with yield and growth, can prosper in the macro backdrop that we envision. Meanwhile, we are now balanced in our outlook on Equities versus Credit, but in both asset classes, we continue to suggest selling Simplicity and buying Complexity. Overall, though, we do not lose sight of the fact that we are undergoing a paradigm shift, and often these types of regime changes do not always transition smoothly. As a result, we maintain our long-held approach of seeking to monetize aggressively the periodic dislocations that inevitably occur in a world of increasing geopolitical uncertainty and macro instability.

Five years ago, China's most charismatic politician was toppled from power. His disgrace allowed his great rival to dominate the political stage in a way unseen in China since the days of Chairman Mao. ... All this was made possible by a murder. ... And the story of that murder begins not in China but in a British seaside town.

The rate of productivity growth – the major determinant of long run economic growth – has slowed sharply since the start of the century. The so called ‘productivity puzzle’ is one of the most pertinent macroeconomic questions of our time. Are fast rates of economic growth, the hallmark of the 20th century, a thing of the past? Or is it just another ‘bad attack of economic pessimism’ as economist John Maynard Keynes wrote nearly a century ago? ... Our chart below shows two distinct ‘super-cycles’ in UK productivity growth since the First Industrial Revolution. The first cycle brought about an acceleration in productivity growth over an approximate 70-year period that peaked in around 1870 before a 30-year deceleration thereafter. It ended at the turn of the 20th century during the middle of the Second Industrial Revolution. The cycle of the 20th century followed a similar pattern to the 19th, but with much, much bigger gains in productivity and well being. ... Comparing the western world’s current struggle for productivity gains against the ongoing fast rates of discovery in energy, artificial intelligence and robotics, to name but a few, suggests that we may be back at stage one and could be heading for stage two with rapid productivity advances in a while. ... Once we fully exploit the potential of the current wave of new technologies, the risks to the future seem skewed to the upside.