Waiting For The Black Swan
Waiting For The Black Swan
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Two more tankers were attacked near the Strait of Hormuz on Thursday morning (6/13/19) in the Gulf of Oman, and if hostilities advance we could be facing a ‘black swan’ event. One that changes everything, and divides the world into ‘before’ and ‘after’ periods.
A lot of us are waiting for ‘something’ to happen. We know that there are too many unsustainable trends and practices running and we fall into the “let’s just rip the Band-Aid off” camp. Some, like myself, have lost faith in the political leadership and institutions and doubt they retain any capacity to attend to anything more than their own selfish interests, let alone manage the difficult tasks ahead rooted as they are in systems theory and managing complexity.
So, let’s get on with it already. Bring it on. Black swans are welcome to those who feel a swift kick to the behind is sometimes needed to begin setting things straight.
Like many, I am also conflicted because I also know that getting onto a new path will be disruptive and probably quite economically and financially painful for everyone, myself included. Hoping for ‘something to break’ and hoping nothing breaks hang in an uneasy balance.
Luckily, my hopes and wishes have nothing to do with what’s going to happen, or when. I might as well be performing a secret hand ritual before the TV in my living room to ensure that my team’s basketball free-throw goes in. The dry tinder of the next bonfire was laid down over many years and decades and it will catch fire when it does, no matter how much denial or how many superstitious practices we employ.
When this current period of insane monetary policy, polarizing politics, and ecological destruction suddenly breaks for the worse is unknowable. It’s going to break when it does. I hope that’s not for ten years, and I hope that’s tomorrow. True ambivalence.
A ‘black swan’ event is a term coined by Nassim Taleb which has three characteristics:
- It’s unpredictable
- It has a massive impact
- Afterwards, everyone comes up with an explanation for it
There’s an honorary fourth characteristic which is that virtually no ‘experts’ saw it coming.
Black swan events can be positive or negative. Here’s an example of an “expert” missing something positive:
I think it’s safe to say that Paul Krugman got that one a tiny bit wrong.
The genesis of the term black swan comes from the (former) western belief that all swans were white. 100% of their experience with swans confirmed that they were all white in color. However, in 1697 the Dutch explorer Willem de Vlamingh made it to Australia and discovered black swans.
Once a black swan is seen, or a black swan event occurs, everything falls into a before vs after category.
When it comes to massive, history altering events, while they may be explained in retrospect by earnest historians as having been due to some specific thing, they usually had plenty of dry tinder lying about waiting for a spark.
Many of us learned that WW I was ‘caused’ by an Archduke being shot. In truth if there hadn’t been many prior years of feuding, bad politics, terrible economic policies, and worse communications absolutely nothing more than an elaborate state funeral would have resulted from the Archduke being shot. Afterwards everyone assigned a simple explanation to a complex situation because that’s what people do.
Today there’s a similar pile of dry tinder laying about waiting for a spark. There’s too much debt, worsening geopolitics, terrible press and social media stripping away necessary context as a matter of habitual practice, stovepiped information and expertise, and increasingly alarming (if not terrifying) signals from the natural world that the sort of economic growth upon which everything is based cannot continue.
It seems as if the world is waiting for something, a black swan, carrying a bright coal in its beak.
When that time comes virtually none of the experts on TV or at the think tanks will have seen it coming, nearly everyone will be surprised at the impact, and few will grasp the complexities surrounding how all that dry tinder came to be laying about in the first place.
We will all suffer the consequences to varying degrees depending on our financial, physical and emotional preparations, as well as due to luck and random misfortune.
The Strait of Hormuz and Global Debts
So let’s connect a couple of dots which I think have the potential to be the black swan event that changes everything.
The first is the massive pile of debt and impossible-to-meet IOUs that the world’s central banks have enabled.
The more debt you are carrying as a nation, company or individual, the better things have to go for you financially and/or economically. Debt makes you more vulnerable to shocks.
The world has never been more deeply in debt, nor has it ever had more deeply un(der)funded IOUs in the form of pension and entitlement promises.
This is the financial tinder waiting for a spark:
The nearly $100 trillion increase in global debt since the beginning of the Great Financial Crisis is an unprecedented act. It was also an act of faith. One rooted in the idea that global GDP growth would come along and save the day, or at least rationalize if not justify the new massive piles of debt. In truth, this love affair with debt can be traced back to August 15th 1971 when the world abandoned the gold standard in favor of the idea that debts themselves could be the backing for debt.
It should be noted, that virtually zero “expert economists” are publicly worried about the enormous rise in debts. If they were, they wouldn’t be publicly known “experts” because nobody would invite them to speak about their ideas. In a system dependent on exponential credit growth, nobody wants to hear about how that’s a bad long-term idea.
As bad as the debts are, the unfunded liabilities – the IOU’s in this story – are 2x to 4x larger than the debts themselves, depending on the country.
In the US, the entire collective pile – debts plus IOU’s – worked out to a staggering 1100% of GDP in 2017. That’s ~300% for debt and 800% for the underfunded liabilities.
Notice that the debt part of the above chart (circled in orange) is actually the minor part of this story, even though that smaller portion usually receives most of the press.
The only way to rationalize or justify such a pile of IOUs and debts is rapid economic growth. And the only way to get that? Cheap and plentiful oil. Which brings us back to the recent spate of tanker attacks near the Strait of Hormuz through which some 30% of all exported oil flows on a daily basis.
Oil’s role in our economic engine is enormously underappreciated by the usual economic ‘experts’ out there. To them, energy is a substance that magically shows up whenever needed. They have no deeper understanding than that. To me energy is THE master resource without which no other activities are even possible. You show me anything that you can buy, do, or consume and I’ll show you how oil was an essential precursor.
It’s as simple as this. The ever-increasing piles of debt (and IOUs) are an explicit call for a larger future economy.
So, you want more economy? Then you are going to use more energy. In particular, do you want more global economy with everything shipped hither and yon and 30,000 mile supply chains? Then you are going to use more energy and more oil specifically.
More than 50 years of data says so:
The above chart shows that world energy usage is tightly coupled with economic growth. More economy = more energy consumed. It’s linear too. Very easy to grasp, yet most economic experts don’t bother themselves with such information. It violates their dogmatic views about the necessary imperative for endless growth, which means it violates literally everything they know and believe. So they don’t ‘go there.’
They falsely believe that economic growth makes energy resources become available. They have it backwards. It’s the other way around. Energy resources allow economic growth to occur. Most believe that infinite growth on a finite planet is not only possible, but a good thing, despite virtual mountains of dismal ecological and resource data to the contrary.
Oil is a weird substance economically. If there’s even a few percent too much coming out of the ground (supply) compared to demand, the price plummets. If there’s even a slight shortage, on the other hand, prices move sharply higher.
Given the importance of oil, however, we should not be focused on merely its price, although that’s important, but also it’s availability. Yes, shortages will lead to price spikes, and those will crush over-indebted countries, companies and individuals alike, but shortages will, by necessity, also lead to less economic activity. Exactly how all that plays out is entirely unknowable. Welcome to complexity theory which states that the behaviors of complex systems cannot be predicted. They can be observed. What actually happens are called emergent behaviors.
If a war with Iran breaks out, and the Strait of Hormuz gets closed down for any length of time (say, more than a month) there will be a shortage of oil that will lead to a price spike. And a physical shortage. How all that plays out in a world groaning under the weight of too much debt is unknowable, but it won’t be favorable. Or pretty, or desired.
What happens to complex global, integrated, just-in-time delivery systems is also unknowable. But it won’t be pretty. We’ll just have to watch as supply chain disruptions spread though a complex universe of derivatives, 12% zombie companies, cov-lite loans, $4-trillion of emerging market dollar-denominated debt, already astonishing fiscal deficits, underfunded pensions and all the rest.
With the new attacks on two more oil tankers in the Gulf of Oman, and the US’s immediate blaming of Iran, there’s a much higher than acceptable risk of a very damaging war breaking out that will close the Strait of Hormuz.
The world is sitting on an enormous pile of debts and related IOUs. One that could easily catch fire and burn with the slightest provocation. While the central banks can print money, create the easiest financial conditions in decades, and constantly intervene in both word and deed in every financial market (which they do), the one thing they cannot do is print up more oil.
If the Strait of Hormuz gets shut down for any length of time that’s going to be a black swan event. It will be unforeseen, have a large impact, and afterwards people will try to explain the resulting complexities in simplistic ways.
You need to have a plan in place for what you’re going to do if or when that happens. Everyone does.
Already there are signs that oil traffic through the Strait of Hormuz has slowed a bit, perhaps to allow the insurance risks to be sorted out. It’s reasonable to suggest that it will take time to assess the actual risks and apply new policies and rates. In the meantime, some ships will sit anchored or at port.
An oil price and supply shock is exactly the sort of black swan event that will take nearly everyone by surprise. The narrative has been one of shale-fueled abundance for so long that practically nobody is thinking about the flip-side of that story.
After the fact, long after the damage has been done and dust has settled, historians may look back and say “It was that one c-308 variant missile from the shores of Iran striking and sinking the Saudi flagged VLCC (the “Layla”) in the center of the outbound shipping channel of the strait of Hormuz that caused everything that followed.”
While that event may have happened, that explanation won’t be entirely accurate. Without an entire bonfire of ultra-dry debt tinder laying about and without decades of ill-will and nefarious actions, the missile wouldn’t have flown in the first place and the bonfire wouldn’t have raged quite so fiercely. Sometimes an Archduke is just that and insufficient to ’cause’ tens of millions of needless deaths in a war nobody can quite explain. Other times they are all that and more.
The US press loves to act as if these things all just happen, context-free, and in a vacuum, as if a half a century of US activity in the region never occurred. Nothing ever happens in a vacuum. There’s always context, and when it comes to Iran, there’s plenty. Many decades of interference and blunt ‘diplomacy.’
So keep your eyes on the Strait of Hormuz and have your preparations and a plan in place before anything goes farther off the rails.
There’s already an economic slowdown occurring which will very quickly morph into a serious recession if/when an oil shock occurs. This third and most ill-advised credit bubble of them all has already lasted for far too long. Every bubble is in search of a pin – or a black swan. An oil shock would be an entire flock of black swans against which the central banks would be powerless.
Will this simply be the end of The Everything Bubble? Or will this mark the end of the Grand Credit Experiment started back in 1971?
The former will be very painful, the latter will change everything forever for everyone.
In Part 2: What Happens When War Meets Recession? we discuss the tanker attacks, and the many recession indicators that are now stacking up. It’s not a question of if, but only when.
Are you prepared?
– Peak Prosperity –
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