2023 Outrageous Predictions: The War Economy

Steen Jakobsen, CIO of Saxo, the online trading and investment specialist, has announced its 10 Outrageous Predictions for 2023; they focus on unlikely but underappreciated events which could send shockwaves across the financial markets as well as political and popular cultures.

 
They are a thought experiment, considering what is possible, if not necessarily probable, and occasionally, they come true – see correct Outrageous Predictions

All big market moves are brought about by something outrageous; in a world where central banks and governments are set to lose their battle with inflation, the risk is that markets will prove as outrageous as ever in 2023.

Commenting, Jakobsen said: ‘This year’s Predictions argue that any return to the disinflationary pre-pandemic dynamic is impossible because we have entered into a global war economy, with every major power scrambling to shore up their national security; whether in a military sense, or due to profound supply-chain, energy and even financial insecurities that have been laid bare by the pandemic experience and Russia’s invasion of Ukraine.’
 

The World at War

 
This year’s Outrageous Predictions are inspired by similarities between Europe today and the state of the continent in the early c20th. In 1910, Norman Angell’s ‘The Great Illusion’ said there was no way Europe could become embroiled in a serious war again because of mutually beneficial trade and prosperous peace.

Within ten years, Europe lay in ruins. Fast forward to 2022, the situation rhymes; shocked by the Russian invasion of Ukraine, few could understand why Putin would risk war casualties and consign his country to economic hardship after two decades of booming and highly profitable export-driven trade, mostly in extractive commodities.
 

‘the risk is that markets will prove as outrageous as ever in 2023’

 
Ukraine brought a war economy mentality to Europe on a scale not seen since 1945; not just about inadequate military capabilities, but also an industrial, Germany-centred model, rendered existentially challenged by Europe cutting itself off from cheap and plentiful Russian oil and gas.

Three Predictions for 2023 look at how Europe may respond, one eyeing the creation of an EU Armed Forces, another spotting the political dysfunction in France and accelerating the next existential crisis for the EU. Finally, UK could find itself far too small to remain an independent actor in an abruptly much bigger world; Saxo outrageously predicts an ‘UnBrexit’ referendum next year.

It also predicts a conference to agree a new reserve currency as any country without a long-standing military alliance with the US will find it unacceptable to remain vulnerable to the weaponisation of the global USD system.

If Saxo’s thesis proves correct in 2023, then persistent inflation is expected; at even half of the peak 2022 rate by late next year, outrageous outcomes are a guarantee. Investors could risk over-estimating the likely recession’s positive impact on inflation; with or without a housing and credit recession, a nation’s need to invest in the new priorities of the war economy – from long-term energy supplies to reshoring production – will ensure a tilt toward more inflation risks.
 
The Outrageous Predictions 2023 publication is available here with headline summaries below:
 

 

Billionaire coalition creates trillion-dollar Manhattan Project for energy

 
In 2023, tech billionaires, impatient with the lack progress in the energy transition will team up and create a consortium code-named Third Stone, raising a trillion dollars to invest in energy solutions. It will be the largest R&D effort since the Manhattan Project developed the first atomic bomb. It will realise the potential of current and ground-breaking new technologies and deliver baseload, the Achilles’ heel of current alternative energy solutions.
 
Market impact: companies that partner with Third Stone and can help realise its vision, soar in value in an otherwise weak investment environment.
 

French President Macron resigns

 
In June 2022 Emmanuel Macron’s party lost their majority in Parliament and passed major laws under pressure from the left-wing alliance NUPES and Marine Le Pen’s far-right National Rally.
 

‘a wave of stupefaction throughout France, and setting up the latest existential challenge to the EU project’

 
Recognising that bypassing lawmakers cannot be a way to govern in a democracy, he decides to resign in early 2023. Macron’s resignation opens the door to the far-right Le Pen, causing a wave of stupefaction throughout France, and setting up the latest existential challenge to the EU project and its shaky institutional foundations.
 

Gold rockets to USD 3,000 as central banks fail on inflation mandate

 
In 2023, gold finally finds its footing after a challenging 2022 when it failed to rally even as inflation surged to a 40-year high. With the arrival of spring, China pivots more fully away from its zero-COVID policy, and Chinese demand drives a profound surge in commodity prices, sending inflation soaring, and under-owned gold rips higher.
 

Foundation of the EU Armed Forces

 
Russia’s invasion of Ukraine and the 2022 US midterm elections saw a strong surge in right-wing representation in Congress with Trump declaring his candidacy in 2024.

In 2023 Europe needs to get its defensive posture in order; in a dramatic move, all EU members move to establish the EU Armed Forces before 2028, funded with EUR 10 trillion in spending, backloaded over 20 years. EU Armed Forces bonds are issued, based on each member country’s GDP. This drives a strong recovery in the euro.
 

A country agrees to ban all meat production by 2030

 
To meet the target of net-zero emissions by 2050, meat consumption must be reduced to 24 kg per person per year, from the current OECD average of 70 kg.

At least one country looking to front-run in marking out its lead in the race for most aggressive climate policy, will move to ban all domestically produced live animal-sourced meat entirely by 2030.
 

UK holds UnBrexit referendum

 
Sunak and Hunt take Tory popularity ratings to unheard-of lows as the UK enters a crushing recession, with unemployment soaring and, deficits soaring as tax revenues dry up.
 

‘the UK enters a crushing recession, with unemployment soaring and, deficits soaring as tax revenues dry up’

 
Public demonstrations demand that Sunak calls a snap election, who then resigns. A Labour government takes power in Q3, promising an UnBrexit referendum for November 1, 2023. The ReJoin vote wins.
 
Market impact: after a weak performance in early 2023, GBP recovers 10% versus the EUR on the anticipated boost to the London financial services sector.
 

Widespread price controls are introduced to cap official inflation

 
Inflation will remain a challenge as long as globalisation continues to run in reverse and long-term energy needs remain unaddressed.

Wars bring price controls and rationing; 2022 has also seen early and haphazard initiatives to manage inflation with taxes on windfall profits but no rationing of supplies – actively subsidising excess demand.

As French utilities go bankrupt, the bill is passed to the government, then to the currency via inflation. Policymakers think rising prices suggest market failure and that more intervention is needed to prevent inflation from destabilising society.

In 2023, expect broadening price and even wage controls. But the law of unintended consequences says controlling prices without solving the underlying issue will not only generate more inflation, but also risk tearing at the social fabric through declining standards of living.
 
Market impact: please see Outrageous Prediction on gold rocketing to USD 3,000.
 

OPEC+ and Chindia walk out of the IMF, agree to trade with new reserve asset

 
Recognising the ongoing weaponisation, non-allied countries move away from the USD and the IMF to create an international clearing union (ICU) and a new reserve asset, the Bancor (currency code KEY), using Keynes’ original idea from the pre-Bretton Woods days to thumb its nose at the practices of the US in leveraging its power over the international monetary system.
 
Market impact: Non-aligned central banks vastly cut their USD reserves, US Treasury yields soar and the USD falls 25 percent versus a basket of currencies trading with the new KEY asset.
 

Japan pegs USDJPY at 200 to sort out its financial system

 
As 2022 rolls into 2023, the pressure on the JPY and the Japanese financial system mounts again on the global liquidity crisis set in motion by the vicious Fed policy tightening and higher US treasury yields. Initially, the BoJ and Ministry of Finance deal with the situation by slowing and then halting currency intervention after recognising the existential threat to the country’s finances after burning through more than half of central bank reserves.

But as USDJPY rises through 160 and 170 and the public outcry against soaring inflation reaches fever pitch, they know that the crisis requires bold new action. With USDJPY soaring beyond 180, the government and central bank swing into motion.

First, they declare a floor on the JPY at 200 in USDJPY, announcing that this will only be a temporary action of unknown duration to allow for a reset of the Japanese financial system. That reset includes the BoJ moving to explicitly monetise all of its debt holdings, erasing them from existence.

QE with monetization is extended to further lower the burden of Japan’s public debt, but with a pre-set taper plan over the next 18 months. The move puts the public debt on course to fall to 100 percent of GDP at the end of the BoJ operations, less than half its starting point. The BoJ policy rate is then hiked to 1.00 percent and all yield-curve control is lifted, which allows the 10-year rate to jump to 2.00 percent. Banks are recapitalised as needed to avoid insolvency and tax incentives for repatriating the enormous Japanese savings held abroad see trillions of yen returning to Japanese shores, also as Japanese exports continue to boom.

In consequence, Japan’s real GDP drops by 8 percent on reduced purchasing power even as nominal GDP rises 5 percent due to cost-of-living increases, but the reset puts Japan back on a stable path and establishes a tempting crisis-response model for a similar crisis inevitably set to hit Europe and even the US eventually.
 
Market impact: USDJPY trades to 200 but is well on its way lower by the end of the year.
 

Tax haven ban kills private equity

 
In 2016, the EU introduced an EU tax haven blacklist identifying countries or jurisdictions that were deemed ‘non-cooperative’ because they incentivize aggressive tax avoidance and planning. This was in response to the leaked Panama Papers, a trove of millions of documents that revealed tax cheating by wealthy individuals including politicians and sports stars.

As the war economy mentality deepens further in 2023, national security perspectives turn increasingly inward to industrial policies and the protection of domestic industries.

As defence spending, reshoring and investments in the energy transition are expensive, governments look for all available potential tax revenue sources and find some low-hanging fruits in haven-enabled tax dodgers. It is estimated that tax havens cost governments between USD 500 and USD 600 billion annually in lost corporate tax revenue.

In 2023, the OECD launches a full ban on the largest tax havens in the world. In the US, the carried interest taxed as capital gains is also shifted to ordinary income.

The EU tax haven ban and US change to the carried interest taxation rule jolts the entire private equity and venture capital industries, shutting down much of the ecosystem and seeing publicly listed private equity firms dealt a 50 percent valuation haircut.
 
Market impact: iShares Listed Private Equity UCITS ETF falls 50 percent