Economies of Frail

World EconomiesFor most Americans, the past few months have been so eventful and stressful, that it is understandable that we might not be completely “up to speed” on news from other parts of the world. However, investors must be at least modestly aware of the global situation so as not to be completely blind-sided by market-moving events.

The past few months have seen numerous events which point to a world increasingly on edge and unstable. While terrorism is certainly not rare in India, last month’s brazen and brutal attack on India’s commercial center, Mumbai was a bold affront to one of the world’s most promising emerging markets. A small, dedicated band of Muslim extremists conducted a three day reign of terror that could have potentially been very disruptive to the Indian economy, were the times not already so challenging.

But terrorism in the sub-continent of Asia is hardly unusual. The events which really are raising eyebrows right now are in parts of the world normally known for their stability. Iceland, a quaint island community in the North Atlantic, has seen its heavily-leveraged banking system implode in the midst of the global credit market meltdown. The island’s normally staid population of a little over 300,000 has grown increasingly despondent and volatile as layoffs mounted and personal savings have been wiped out. For a brief period last month, there were violent protests outside of the Icelandic parliament as people took to the streets to vent their frustration.

Equally as staid Denmark has seen riots over the past few months, largely by immigrants unhappy with declining economic prospects in the Nordic country. Many European cities have large, often-illegal immigrant communities that are off limits to local police. As Europe plunges deeper into recession, resentment both among native Europeans toward these illegals and vice-versa pose a real risk of violence, perhaps on a scale not seen in Europe in decades.

This week, Greece has been rocked by violent protests which threaten to bring down its conservative government. The riots started in response to the shooting death of a 15 year old boy by Greek Police, but the length and breadth of the violence point to a greater degree of disquiet. The Greek economy was never fully prepared for full integration to the Euro and, as with many of the southern European countries, it is suffering massively from not having control over its own monetary destiny. Ambrose-Evans Pritchard’s column “Greek Fighting, the eurozone’s weakest link starts to crack” from Wednesday’s UK Telegraph delves into the risks this crisis presents, not just for Greece, but for the common European currency, the EU and NATO. Of note, these riots have caused sympathetic outbursts in Denmark, Russian, Spain and other European capitals over the past few days. Economic hard times present opportunity for the disaffected, the un- or under-employed and the political opposition, which can get out of hand far quicker than in times of prosperity.

Ireland, once a scene of horrific sectarian strife, has transformed itself over the past decade in to a booming, vibrant and largely peaceful nation. Regrettably, Ireland’s banking crisis mirrors that of Iceland and the economic hardship that lies ahead for the Irish could certainly awaken dormant grievances that prosperity had put to rest. The UK’s foundering Labor government is trying desperately to deflect blame for its own serious economic problems to the United States. However, the excesses of the U.S. economy were replicated if not taken to a higher level in Britain and the fallout there is likely to be much worse. The heavily-leveraged British banking system may face a similar fate to Iceland’s, which would be calamitous. In fact, the Brown government’s newly revived interest in integrating Britain into the Euro may be out of concern regarding the nation’s economic fate.

In this hemisphere, the Mexican economy has fallen off a cliff and social unrest is rising. The plunge in oil prices has obviously impacted their economy, which depends heavily on oil exports. Furthermore, Mexican oil production has been in decline for years due to mismanagement by state-owned Pemex. Pair declining export volumes with plunging barrel prices and you have a disaster. Furthermore, the sagging U.S. economy has caused many Mexicans who were in the U.S. illegally to return home. Also, money being wired back to families in Mexico from the U.S. has plunged. Such transfers are traditionally a big source of support for the Mexican economy. Drug cartels are waging a bloody and brutal war for control of much of northern Mexico against the Army. However, tough economic times give the drug lords more clout and opportunity and the country faces growing instability.

Even our stodgy northern neighbor Canada is seeing political turmoil after Prime Minister Stephen Harper, whose conservative party narrowly won a recent election that would have required that he form a second consecutive minority government, took the controversial step of shutting down the country’s legislature until late January in order to head off a vote of no confidence that he would have probably lost. The three opposition parties wanted to oust Harper, largely capitalizing on growing economic turmoil in Canada. While this does not presage riots in the country, it is further indication of the growing societal stress being caused by economic hardship.

In such times, democracies tend to turn inward as diverse ideologies attempt to address common problems. Autocratic regimes, also threatened from inner turmoil, do the opposite and turn outward so as to channel the bile of the populace away from the regime. The coming months and years will be very interesting and perilous times. For investors, safe havens such as U.S. Treasury debt, U.S. blue chip stocks and bonds and high-quality municipal debt may do better and for a longer period of time than underlying fundamentals would seem to dictate. For the immediate future, the anemic yields on Treasury debt may last far longer than logical. At some point, these persistent low yields cannot help but make the attractive dividend yield (so long as it is safe) on quality stocks more and more appealing.

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