by Bill O’Grady and Thomas Wash

[Posted: 9:30 AM EDT] There was (and is) lots of news.  Let’s dig in:

Abe in a landslide: PM Abe’s gamble to call early elections looks like a winner.  The LDP and the rest of Abe’s ruling coalition will take 313 seats, giving him a “supermajority” of more than 310 seats, which is the level that will allow him to make changes to the constitution.  Japanese equities rose on the news and the JPY declined modestly (it has been weaker on expectations that Abe would prevail and thus Abenomics would continue).  However, on the economic front, we don’t see much more from Abenomics.  The “three arrows” were really all about a weaker JPY; that has been achieved and it’s probably not possible to weaken the currency much further without prompting a negative reaction from Washington.  BOJ Governor Kuroda will probably get reappointed.  We look for Abe’s focus to shift toward adjusting the constitution to allow Japan to project military power.  As U.S. isolationism develops, this is a necessary step to deal with a growing Chinese threat.

Xi and the Party Congress: Today, we expect Chairman Xi to reveal the new members of the Standing Committee of the Politburo, the most powerful body in China.  But, for now, the real story is that Xi is ending Deng’s foreign policy.  The PRC’s foreign policy has evolved, starting with Mao, who was essentially isolationist.  He turned the nation inward to stabilize the persistent tensions between the insular interior and the cosmopolitan coasts.  This led to unity and income equality with weak economic growth.  Deng allowed the coasts to flourish to lift the economy at the expense of regional divergence and rising income inequality.  Deng called for China to avoid projecting power globally to allow for uninterrupted economic development.  Because the economic development was based on export promotion, workable relations with the U.S. were imperative.  The 2008 Great Financial Crisis and uncertainty about the U.S. role in the world has led Chinese leaders to sense a vacuum, and Xi has indicated over this Congress that he wants China to fill it.  China is facing the problems of the late stages of a “high growth/low cost nation,” which are unbalanced development (too much productive capacity with inadequate household share of GDP) and too much debt.  Xi is making it clear he intends to follow imperialism to resolve this problem, the paths the British and the Dutch took when they faced this point in their development.  The problem for China is that it doesn’t have the military power to pull this off; thus, it must try to develop economic colonies under the protection of the U.S. military.  When Japan faced this issue in the 1930s, it invaded China and eventually bombed Pearl Harbor.[1]  An assertive China is going to be a growing problem for global stability.

Spain: PM Rajoy appears poised to take direct control of Catalonia.  If the current provincial leadership declares independence, they may all end up in jail.  Rajoy has the state apparatus to take control; what he doesn’t have is the political legitimacy to enforce his will.  In other words, he will find that it’s one thing to establish control but it’s another to maintain it.  Rajoy will face overt and covert opposition to taking away Catalan autonomy and disruption will prove to be costly given that the province represents 20% of Spain’s GDP.

Another populist win: As we noted last week, the Czech Republic has elected a populist slate of candidates, with the Ano Party winning nearly 30% of the vote, almost 20 points higher than the closest rival.  The Social Democrats, the center-left, saw their support collapse from 20.5% to 7.3%.  It should be noted that the next largest parties in this vote lean Euro-skeptic, suggesting that the EU is becoming rather unpopular.  Along with recent elections in Austria and the rise of the AfD in Germany, we are seeing a nationalist, anti-immigrant surge in Europe.  Meanwhile, we note that Lombardy and Veneto, regions in Italy, have voted for more autonomy from Rome.  Although neither are pushing for independence, Europe appears to be moving away from centralization, which has been the primary trend in Europe since WWII.

Iran: SOS Tillerson has warned European firms that doing business with Iran might be risky as new U.S. sanctions are being considered.[2]  This move by the Trump administration comes with evidence that the Iranian government has used the removal of sanctions to undermine the economic power of the Iranian Republican Guard Corps (IRGC).[3]  During sanctions, the IRGC took over large swaths of the economy to maintain growth and evade sanctions.  This allowed the IRGC to develop power independently of the clerical government.  President Rouhani and the Ayatollah Khamenei have been trying to weaken the IRGC’s economic power to prevent them from becoming a political threat.  If the Trump administration puts sanctions back in place, Iran will have no recourse other than to allow the IRGC to resume its activities.

Jimmy to the rescue?  In a curious op-ed in the NYT, Maureen Dowd interviewed former President Jimmy Carter.  The interview was wide-ranging but a couple of items stick out.  First, the former president would be willing to help negotiate with the North Koreans.  He is credited with the 1994 Agreed Framework, which diffused a crisis over North Korea’s nuclear program, although we now know Pyongyang simply moved to another method to attain a nuclear weapon.  Still, Carter did likely prevent a war on the peninsula.  Essentially, it appears Carter is sending a signal to the Trump administration that he is available.  We note Carter said some rather flattering things about the president and also that he didn’t vote for Mrs. Clinton during the primary (he voted for Sen. Sanders).  Second, there is a clear element of animosity in his tone toward the Clintons and Obama.  We are not sure what exactly is going on there but Carter may be one to watch.  Trump likes unconventional “out of the box” surprises.  Nothing would be closer to an unexpected outcome than sending Carter to North Korea.  This is happening as we are hearing reports that the U.S. is considering the involuntary call-up of reserve pilots.[4]

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[1] https://www.youtube.com/watch?v=yKHUGvde7KU

[2] https://www.nytimes.com/2017/10/22/world/middleeast/tillerson-iran-europe.html?emc=edit_mbe_20171023&nl=morning-briefing-europe&nlid=5677267&te=1

[3] https://www.nytimes.com/2017/10/21/world/middleeast/iran-revolutionary-guards.html

[4] http://www.foxnews.com/politics/2017/10/21/air-force-could-recall-up-to-1000-retired-pilots-after-trump-order.html?utm_source=Sailthru&utm_medium=email&utm_campaign=New%20Campaign&utm_term=%2ASituation%20Report and http://www.defenseone.com/threats/2017/10/exclusive-us-preparing-put-nuclear-bombers-back-24-hour-alert/141957/?utm_source=Sailthru&utm_medium=email&utm_campaign=New%20Campaign&utm_term=%2ASituation%20Report