Press Releases

Defence and Security Implications of Brexit

The vote of the United Kingdom to withdraw from the European Union (“Brexit”) has come as a surprise to many commentators, despite opinion polls indicating for many years that a Brexit vote was likely.

The implications of Brexit for the defence and security of Europe has been given little real consideration. Some commentators have suggested that the United Kingdom would lose power and influence if it left the European Union. The reverse may actually be the case. The power and influence of the United Kingdom could grow commensurate with the reduced power of Europe, particularly if there is a US withdrawal from NATO.

The withdrawal of the United Kingdom from the European Union (“EU”) will have limited immediate implications for the security and defence of Europe. The EU’s Common Security and Defence Policy (“CSDP”) is of much less significance to the defence of Europe than is NATO. Denmark, still an EU member, has already opted out of the CSDP.

Nearly 50 years of gradual expansion of EEC and now EU powers is likely to be at an end. The United Kingdom may not be the only member to leave. The impetus is now likely to grow for referenda in other EU member countries. In Italy in particular there is strong support for independence from a European super state.

The official response of the United States to the British referendum result is curious. President Obama claims that the Special Relationship will endure, but the White House has confirmed that Obama stood by his earlier warning that “Britain would move to the back of the queue when it comes to trade deals“. This threat is consistent with previous actions by the United States under President Obama, which indicate that the USA no longer respects the UK as a special ally at all.

If Donald Trump is elected in November as president of the United States, there will be a much greater threat to European security. Trump favours a US withdrawal from NATO. Whilst he may not be able to achieve this, a Trump administration is likely to give even less priority to NATO and the defence of Europe than has the Obama administration.

The future of security in Europe will be interesting: A smaller EU, possibly with reduced powers; a newly independent United Kingdom; an increasing disengagement of the USA from Europe; and if Trump becomes US president, quite possibly a US withdrawal from NATO.

These developments are likely to reduce the ability of mainland Europe to manage the continuing threat of aggression from Russia, Islamic terrorism, and refugee crises. This will make it more important than ever that the UK maintains well-balanced and funded armed forces.

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China

China Already in Recession

The real Chinese economy has been in recession for two or three years.

The Chinese recession has been masked because of inaccurate financial reports from China. Economic data from the People’s Republic of China is unreliable for three reasons:

The first is that the Communist Party regime publishes false data in order to bolster its political position.  The published growth statistics are increasingly recognised by economists to be inaccurate.

Secondly, the Communist Party may not itself know with any degree of accuracy the economic growth – or decline – in the country. Regional and local party bosses are under pressure to report impressive economic growth figures.  They have an incentive to be creative with economic data, and to report false statistics.  Given the pervasive nature of corruption in China, and the propensity for Chinese businesses to maintain at least three sets of books (for the taxman, the shareholders and the owner respectively), official economic reports will always be incomplete and accurate.

Thirdly, most of the economic growth – or at least activity – has been in construction.

The building of vast numbers of factories and apartments, and giant infrastructure projects, has absorbed half of the worlds steel, cement and other materials for nearly two decades. Governors under pressure to report continuing growth are creating it artificially by undertaking vast building projects that no one actually wants. Cities are building new towns on a speculative basis, hoping for investors and home buyers.  However they are not coming. There are literally 75 million empty apartments  alone in China. The largest mall in the world, the South China Mall, remains empty ten years after being completed. Many Chinese cities possess a ghost suburb, of empty apartments.  There are ghost cities too, including Ordos, in Inner Mongolia.  Built at a cost of over $160 billion, it will never be finished and is likely to be reclaimed by the desert. Most of this extravagant and ultimately wasted expenditure is undertaken with borrowed funds.

This economic “growth” is illusory, and not an indication of real economic activity. Since so much building activity is debt-funded, and unproductive, the construction and related sectors should be excluded from statistics when determining real economic activity in China.  When construction is excluded, growth and GDP figures decline significantly.

World commodity prices have been heavily affected by Chinese consumption for over a decade. This is due largely to the unnecessary construction boom. However for the last two to three years commodity prices have plummeted.  This was the first sign that the construction boom was slowing.  The extent of the decline in commodity prices indicated a dramatic decline in orders and a falling off in new projects.  Projects currently underway are being completed, but the number of new projects are declining.  Until the current projects are completed the extent of the decline is not obvious. However there will soon be a dramatic decline in on-going construction.  It will be decades before the surplus housing, factory and commercial building will be occupied. In the meantime construction, property prices and commodities will all suffer an accelerating decline.

Recently Chinese sharemarkets have suffered from panic selling, as the boom markets start to bust.  Shareholders panic when they realise that the value of their investments are declining.  Up to $5 trillion in nominal value has been lost.

When the same thing begins to occur with the property market, the loss of notional wealth will be much more dramatic. Since residential apartment prices are overvalued by some 400%, a drastic correction is overdue. When this occurs some $15 trillion in nominal wealth will be lost.

It is not clear what the Chinese recession will mean for the world economy, but as it accelerates in China the stability of the largest Communist dictatorship may be affected.

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Publications

The Coming Chinese Financial Collapse

It is almost 85 years since the start of the Great Depression. That maelstrom is generally accepted to have been the worst worldwide economic crisis of modern times. Economic activity declined, national finances suffered, whilst millions of people became unemployed.

Macro-economics are rather better understood in 2014 than they were in 1929. Yet despite the best efforts of economists and governments, recessions cannot always be avoided even today. The Global Financial Crisis (GFC) from 2008, otherwise known as the Great Recession, demonstrates this. The world has still not recovered fully from that recession.

The GFC resulted from a number of factors, but the main precipitating causes were the collapse of the American house price bubble, the failure of related bonds (euphemistically known as “sub-prime mortgages” (SPM’s)) and the resulting loss of bank confidence and liquidity.

Before the GFC, American houses had been overvalued by some 30%. The Government had allowed essentially unregulated lending and property speculation. A collapse of the property bubble was inevitable.

When the bubble burst there was a swift decline in both house prices and demand for property. This depressed the US economy, causing further declines in spending, savings and house purchases. Newly unemployed people were unable to meet their mortgage payments, and lenders foreclosed on record numbers of properties, further depressing prices.

However, five years after the recession began house prices are well on their way to reaching pre-recession levels, and economic confidence has been largely restored in the USA.

The depth and duration of any recession depends on a number of factors, one of the most significant being pre-existing economic imbalances in the countries affected.

In the GFC, the American people and economy suffered primarily due to the collapse of the property bubble. In parts of Europe over-exposure to American financial instruments – themselves linked through SPM investments to the American property bubble – was often the major problem. In other counties high levels of pre-crisis debt was the major factor in deepening and lengthening the crisis. Heavily indebted countries could not afford additional spending to stimulate their economies when the recession hit.

As bad as the GFC was, a far worse world financial crisis is imminent. Unlike the Great Depression and the Great Recession, both of which were caused by American economic mismanagement, this one will emanate from Communist China.

China has had a burgeoning economy ever since the Communist regime began tentative liberalisation in the early 1980’s.

Free enterprise has expanded from being almost non-existent to dominating the economy. China now produces much of the world’s consumer goods. This has generated unprecedented personal wealth. The Chinese people have become for the first time consumers of luxury goods and have surplus funds to invest.

Communist China is in many ways not a good place to invest, for either locals or foreigners. Corruption is ubiquitous, the regime is tyrannical and mercurial. Bank interest rates are very low, investing in business is bureaucratic and difficult. For many people investment in real estate is the only realistic option. Accordingly since the 1990’s many Chinese have invested in property.

Despite reforms, China’s economy is centrally planned and remains structurally weak. Political imperatives and corruption influence, and often undermine, prudent economic management. Regional and local Communist Party bosses are required to report sustained economic growth and progress. Authorities are under pressure to show impressive economic growth in their regions. This is most readily achieved through the authorities undertaking building projects, using borrowed funds. A booming property market, fuelled by individual Chinese investing their surplus funds, further encouraged local authorities to invest in massive building projects.

Consequently much of the impressive economic growth occurring in China since the 1990’s has been in building and construction. For a number of years 50% of all building work carried out worldwide has occurred in Mainland China. China consumes more than half of the work’s steel, coal and concrete production, 45% of the world’s iron, 25% of the refined copper and aluminium, and 16% of the world’s nickel. These statistics are often reported as if they are desirable. They are not.

The construction boom was not caused by demand from occupiers of apartments, shops and offices, but by demand by investors and political imperatives. This demand has led to the building of virtual Potemkin cities. There are vast numbers of poor quality apartments being built that will never be occupied.

Although a phenomenal 50% of home owners in many Chinese cities own an investment property in addition to their own apartment, only a small percentage of these “investment” properties are actually occupied.

There are now some 65 million empty apartments in China, enough to house 200 million Chinese.

Yet millions of urban Chinese remain living in slums. Nearly half of all migrant workers still live in dormitories or on worksites. They cannot afford to purchase or rent the new apartments. Although China remains largely a third world country, apartment prices for sale and rent are set at first world levels. The apartment owners cannot reduce the rents they are asking, as this would reduce the “value” of the apartment to a more realistic level. They prefer to leave them empty and cling to the illusion that they own a valuable asset.

From one-quarter to one-third of all apartments in the average Chinese city are empty and will never be occupied. Many cities have built new suburbs that are almost entirely empty. According to Citigroup, 12 provincial capitals are building an average of nearly 15 “new towns” each. There will be very few inhabitants for any of these massive and costly projects.

Most notorious of the many newly built ghost towns is the city of Ordos, in China’s Inner Mongolia. This white elephant was built at a cost of US$161 billion. Intended to ultimately house one million people, it now has housing completed for 300,000. Yet it has only 20,000 to 30,000 permanent residents. It will never be more fully occupied, being far from places of work. Soon it will be abandoned and reclaimed by the surrounding desert.

Other local authorities have built thousands of commercial and office buildings, many of which remain empty. The largest shopping mall in the world, the New South China Mall, is 99% empty, ten years after opening.

Unfortunately the unfettered and pointless construction boom continues. More and more unneeded apartments are built every year, despite the absence of tenants, and the near impossibility of on-selling to owner-occupiers.

An unprecedented building bubble has occurred in China. It is very largely artificial, and enormously wasteful.

This construction boom is the largest waste of wealth and resources that the modern world has ever seen. But the results are not simply the squandering of financial and material resources, and the destruction of the environment.

Even in a centrally-controlled dictatorship, there will be a day of reckoning. The economic fundamentals are too wrong. There will inevitably be a major adjustment.

Unfortunately the consequences of this illogical economic policy are dire. The correction will be painful. The American property crash, which caused a five year international recession, was nothing compared to what the Chinese crash will be like. Apartment prices will not fall 30%, and then recover, as they did in America. They will drop by 75% or more, and remain low permanently.

The loss of this nominal “wealth” will be massive. There are 50 billion square metres of apartments in China. The average price of an apartment is US$1,700 per square metre. A 75% decline in apartment values will result in a reduction in household wealth by some US$60 trillion.

The 80% of urban Chinese who own their own apartments will see a massive decline in their equity. Half of the population of many cities will see both their own apartments and their “investment” apartments drop in value, wiping out their illusory wealth. They will be forced to lower rents to market level to attract real tenants. Many of the presently empty apartments may be occupied, but rents can only be a fraction of rentals asked until now.

The decline in residential property values will be matched in the commercial and industrial sector.

The coming property market crash will cause a major drying up of both domestic spending and investment. There will probably be a complete cessation of overseas investment. China’s economy will immediately fall into a deep recession.

China will be lucky to avoid a much worse recession than that of the 1930’s.

There will probably be social unrest on a scale unmatched even during the Cultural Revolution of the 1960’s and early 1970’s. The Tiananmen Square protests of 1989 will be nothing as to what may be seen.

The Communist regime will quite possibly fall, and as it falls there will be further chaos, and possibly war.

Many crumbling dictatorships start a war to try to bolster their position. In this case Beijing would probably choose to invade the Republic of China in its dying days. That risks war with the United States.

Meanwhile, the sudden collapse of the Chinese economy will have major repercussions for the rest of us. To a significant extent China is now the factory of the world. When that factory’s lights go out, the world economy will suffer a major blow. It will be plunged into another global recession, probably much deeper than the GFC. As bad as the last five years were, the next recession could be much worse.

The only glimmer of hope is that other countries will benefit from the enforced introduction of import substitution, replacing cheap Chinese imports. Those countries whose manufacturing base has not yet been lost to China will be the least affected.

This coming crisis was entirely preventable. A competent government would not have fostered a wasteful speculative boom. The Communist regime is the source of its own misfortune. Unfortunately many millions of innocent people worldwide will suffer the consequences of their mismanagement and folly.

By John Cox

Text copyright Paratus Defence Analysts and Consultants Limited 2014

 

Sources:

“Building Rome in a day. The sustainability of China’s housing boom”; A report from the Economist Intelligence Unit’s Access China service; 2011; http://www.excellentfuture.ca/sites/default/files/Building%20Rome%20in%20a%20Day_0.pdf

“The Fallout From China’s Property Downturn”; Sara Hsu, The Diplomat; 9 May 2014; http://thediplomat.com/2014/05/the-fallout-from-chinas-property-downturn/

The emperor’s new clothes?; HSBC, Week in China; 25 Apr 2014; http://www.hsbcnet.com/gbm/global-insights/week-in-china/2014/the-emperors-new-clothes.html

“Ordos: The biggest ghost town in China”; Peter Day; BBC; 17 March 2012; http://www.bbc.com/news/magazine-17390729

“Great Leap Backward. Here’s why a China housing crash would crush the middle class—and why that matters”; Gwynn Guilford; 4 April 2014; http://qz.com/195574/heres-why-a-china-housing-crash-would-crush-the-middle-class-and-why-that-matters/

Housing Trouble Grows in China. Overbuilding by Real-Estate Developers Leaves Smaller Cities With Glut of Apartments; Bob Davis and Esther Fung; 14 April 2014; http://online.wsj.com/news/articles/SB10001424052702303456104579487790125203828

“Double bubble trouble. China’s property prices appear to be falling again”; 22 March 2014; the Economist; http://www.economist.com/news/china/21599395-chinas-property-prices-appear-be-falling-again-double-bubble-trouble

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Publications, Ukraine

Russia Confirms Invasion of Crimea

Paratus Monograph 33: Russia’s Campaign Medal Confirms Invasion of Crimea

 

Russia has acknowledged invading Crimea.

Russia’s Vladimir Putin had consistently denied that his country had invaded the Ukrainian Autonomous Republic of Crimea. His official position has been that the people of Crimea had revolted against a fascist regime in Ukraine, and requested annexation by Russia. Russia had no responsibility for the events in the republic.

The facts do not support that denial.

Under the terms of agreements between Russia and Ukraine, Russia was permitted access to Sevastopol, and the right to maintain naval forces there, until 2045. The agreements provided that Russian military forces in Crimea would respect “the sovereignty of Ukraine, observing its laws and permitting no interference in the internal affairs of Ukraine”.

The 1994 Budapest Memorandum was the international agreement which underpinned the elimination of Ukraine’s nuclear arsenal. In return for giving up its nuclear weapons, Ukraine received security assurances from the USA, UK and Russia to protect Ukraine’s sovereignty and territorial integrity. The parties agreed not to use economic or other coercion or aggression against Ukraine, and agreed to assist the country in the event of outside aggression.

For several years Russia has been using economic coercion against Ukraine, in direct violation of the Budapest Memorandum.

On 21 February 2014 the corrupt president of Ukraine, Viktor Yanukovych, fled the country. This was welcomed by the majority of the people of Ukraine.  Even members of Yanukovych’s own party voted to disown him. The Ukrainian parliament, the Verkhovna Rada, voted 338:0 (out of 447 deputies) on 22 February to set new presidential elections for 25 May. Parliament did not purport to remove Yanukovych, as is widely but incorrectly reported. It did pass a resolution that declared that Yanukovych “withdrew from his duties in an unconstitutional manner“, which he clearly had done, and voted to elect Oleksandr Turchynov as Chairman of the Verkhovna Rada and acting President and Prime Minister of Ukraine.

Shortly afterwards an extensive and well-organised Russian propaganda campaign began. The change of leadership in Ukraine was represented as a violent fascist coup by anti-Russian extremists. It was falsely suggested that Russian speaking residents of Crimea, and eastern Ukraine, were in danger.

In early March euphemistically described “pro-Russian militants” seized the Crimean parliament (the Supreme Council of Crimea), and other government and police buildings, set up roadblocks and besieged Ukrainian military and naval bases in Crimea. A leader of a tiny pro-Russian neo-Nazi group, Sergey Aksyonov, was “elected” prime minister of Ukraine by members of the Autonomous Republic’s parliament who were being held at gunpoint by the “militants”. It was widely believed, but never proven, that many of the ”militants” were actually Russian special forces.

Simultaneously Russian naval vessels prevented Ukrainian ships from leaving or entering port; and Russian marines and special forces assisted the pro-Russian militants to secure government installations. Large numbers of additional Russian troops entered Crimea. Whilst Russia claimed that these troop movements were consistent with theBbases Agreements, they were not. Not only did the incursion of additional troops violate the provisions relating to the numbers and movement of troops, but the purpose of their operations violated the fundamental commitment not to interfere in the internal affairs of Ukraine.

A referendum on annexation by Russia was hastily organised by the de facto government of Sergey Aksyonov. This resulted in an overwhelming vote for annexation. This result was not a surprise, due to a boycott by almost all opponents of independence, strident official pro-Russian propaganda, and vote-rigging by the new regime in Crimea.  Following the vote, Russia almost immediately annexed the Autonomous Republic of Crimea.

It is clear that Russia had orchestrated the disorder and takeover in Crimea, and was directly responsible for the events leading up to the referendum. It had violated its commitments under the Budapest Memorandum, the Bases Agreements, and at international law to protect the sovereignty and territorial integrity of Ukraine, and not to interfere in the internal affairs of another country.

Ironically even if Russia had not been responsible for these events, it was still breaching its international commitments by annexing Crimea.

In a scene eerily reminiscent of Adolf Hitler visiting Sudetenland in September 1938, Vladimir Putin visited Crimea in May 2014. At a military parade in Simferopol World War Two veterans were joined by veterans of the “Liberation of Crimea“.  The new veterans sported a fresh medal, issued by the Russian Federation’s Ministry of Defence. This is inscribed “For the return of Crimea 20.02.14 – 03.18.14.”

If Russia was not directly involved in the seizure of Crimea, why was a campaign medal issued?  The issue of this medal by the Russian Ministry of Defence confirms Russia’s involvement in the annexation of Crimea, and that this was an official military operation.

More important is the dates on the medal. 20 February 2014 was the day before Viktor Yanukovych fled Ukraine, and before the Verkhovna Rada voted to appoint an acting president.

The issue of an official campaign medal has undermined Russia’s claim that it did not invade Crimea. Not only does the medal official effectively recognise that an invasion occurred, but it supports the supposition that the planning for that invasion began even before Russia’s corrupt ally Viktor Yanukovych fled Ukraine.

 

Text copyright Paratus Defence Analysts and Consultants Limited May 2014

 

Sources:

The Online Debate Over A Mysterious Russian ‘Medal’; Radio Free Europe Radio Liberty; 24 April 2014; http://www.rferl.org/content/the-online-debate-over-a-mysterious-russian-medal/25361367.html

Putin’s Crimean Medal of Honor, Forged Before the War Even Began, Will Cathcart, The Daily Beast, 25 April 2014; htttp://www.thedailybeast.com/articles/2014/04/25/putin-s-crimean-medal-of-honor-forged-before-the-war-even-began.html

Kyiv Post; 26 April 2014; http://www.kyivpost.com/content/ukraine-abroad/the-daily-beast-putins-crimean-medal-of-honor-forged-before-the-war-even-began-345284.html

Vladimir Putin makes triumphant visit to Crimea as “20 separatists killed’’ The Telegraph; 9 May 2014; http://www.telegraph.co.uk/news/worldnews/europe/ukraine/10820873/Vladimir-Putin-makes-triumphant-visit-to-Crimea-as-20-separatists-killed.html

Parade Ignores Carnage; New Zealand Herald, 11 May 2014; http://www.nzherald.co.nz/world/news/article.cfm?c_id=2&objectid=11253015

 

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Press Releases

New Zealand Defence White Paper 2016

The New Zealand Defence White Paper 2016, issued on 8 June 2016 after a substantial delay, sets out defence policy for the next 25 years.
Defence Minister Gerry Brownlee described the White Paper as outlining a 15-year modernisation plan worth nearly $20 billion, to ensure the New Zealand Defence Force has the capabilities it needs to meet the country’s security and defence challenges.
The reality is very different. The White Paper does not propose any real increase in defence spending. Virtually all of the proposed “investment” is funding already allocated and required to maintain and operate the legacy force structure. There is no funding for new or replacement equipment and no real commitment to replace the current aging or already obsolete equipment. Present and projected funding will be insufficient for any major acquisitions.
The likely consequence of another 15 years of underfunding will be that the Defence Force will be unable to afford replacement equipment, and a block obsolescence of New Zealand defence assets, with a continuing decline in operational capabilities.
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