“Securities” by Lux Capital: Balancing balloons
The inflated expectations of strategic dilemmas
Why is strategy hard? No matter the scope (from individuals to nation-states), strategies are difficult to devise because they force tradeoffs in situations with imperfect information. Resources are limited, goals are ambitious and infinite, and there are only so many ways to align the former with the latter. Add in the complexity of predicting an uncertain future, and there is almost never a “solution” that perfectly fits a problem.
Most strategies are far worse than that though, and in fact, most end up simply being “wrong” — even before we reach an outcome. In business, resources (particularly people) are over-allocated or expected to perform at infeasible levels. Sales targets are marked up in the beginning of the year only to be brought down to Earth in later quarters as reality intrudes on fantasy. At higher scopes like nations, strategies aren’t just wrong but are also simply incoherent, with different parts of the same strategy working in diametrically opposed ways.
I was thinking about this basic tension in the context of the wall-to-wall vituperative coverage of China’s spy balloon the past two weeks, and the increasing fervor on Capitol Hill to really strike against China on as many fronts as possible. The House of Representatives voted 419-0 on a resolution condemning the balloon’s flight over the U.S., and now committee leaders are promulgating a series of ever-harsher economic and security measures to kneecap the Middle Kingdom and its overseas activities.
(Senator Rick Scott alone has discussed bills like “The Taiwan Invasion Prevention Act”, “The Deterring Communist Chinese Aggression Against Taiwan through Financial Sanctions Act” and “The No CCP (Chinese Communist Police) in the United States Act of 2023” to get a taste of where the gaze of Congress is these days).
Swimming beneath that current of vitriol last week was the release of the latest trade data published by the Census Bureau, which showed that the U.S. trade deficit in 2022 reached an all-time high of almost $1 trillion. Annual trade with China hit a record deficit of $382.9 billion, and the U.S. also recorded massive deficits with the European Union ($203.9 billion) and Mexico ($130.6 billion). Two factors widening those deficits were large increases in imports of cars and auto parts (up $52 billion) as well as cell phones (up $11 billion).
These are obviously “net” numbers, and it’s instructive to zoom into a relationship like China to get more granular. American exports to China were $153.8 billion while imports were $536.8 billion. Where do both countries hold a lead? According to the Bureau of Industry and Security (and using 2021 data), America’s strongest sectors for exports were in agriculture products, oils, minerals, chemicals and plastics. Meanwhile, China was strongest in machinery and appliances although this is a two-way street — America also exports tens of billions of goods in this category.
Here we have our first strategic dilemma: the country obnoxiously flying a spy balloon over America is also one that buys more than $150 billion worth of our goods, and also sells us more than $500 billion worth of useful and competitive products. Scaling back trade ties would most significantly harm U.S. farmers, who rely on the appetites of China’s 1.4 billion people for their profits.
Let’s add another dilemma. The Congressional Budget Office on Wednesday published its budget projections for this year and the upcoming decade to 2033. The figures, as one can imagine, are bleak. This year’s federal budget deficit is expected to be $1.4 trillion, and by 2033, the office projects that the deficit will reach $2.7 trillion. To put that figure into context, federal debt to GDP was 35.2% in 2007, reached 97% this year, and is projected to swell to 118.2% by 2033.
Even as we drain our coffers, debt is getting more expensive to service as interest rates rise at the Fed and other central banks. Federal debt service is now around $475 billion for 2022 (up 35% from 2021), and while most of the government’s debt is held in instruments with historically lower coupon rates, the average interest rate is projected to spike in the years ahead as the government refinances older debts and takes on new debt.
So we have another strategic dilemma: the government is profligately spending money it doesn’t have, and is increasingly under strain as a greater percentage of general revenues are used to cover the rising costs of debt service. There is no strategy or “blueprint” to make the math here sustainable, given the sheer scale of cuts and revenue increases required to bring the budget even close to being balanced.
Now, let’s turn to a third and final dilemma: Taiwan. Taiwan is the flashpoint of U.S.-China relations, and the tensions around the island have increased rapidly in the last year. Another Congressional delegation to the island is expected sometime this year, and the Financial Times is reporting as I write this newsletter Friday that Michael Chase, the Pentagon’s top China official, has landed in Taiwan. As the FT notes, “Chase is the first senior US defence official to travel to the island since the 2019 visit of Heino Klinck, deputy assistant secretary for east Asia, who in turn was the most senior Pentagon official to visit Taiwan in four decades.
The U.S. has minimally “pivoted” to Asia over the past decade, and defending Taiwan would require prodigious new funding in terms of military equipment, new and redeployed personnel, and base construction. How prodigious? DC analysts, usually so loquacious to gab on defense budgets, are mum to offer a number. I’ll throw out one though: a trillion dollars, or roughly one extra year of the U.S. defense budget as supplemental spending.
Clearly, protecting democratic Taiwan is a high priority, particularly after what the world witnessed in Hong Kong the past few years. But the costs for that protection are extremely steep — and the U.S. is caught in the vice grip of a clenching budget as well as in the deep economic web of needing Chinese imported goods and its valuable export markets. That’s our third dilemma.
A proper national strategy would reconcile the economic vitality that comes from U.S.-China relations (and the concomitant tax revenue) with the need for bringing federal government spending into alignment with fiscal reality, while also making commitments and outlays to protect Taiwan. That’s a tall order, but one that’s doable with intentional tradeoffs.
Unsurprisingly, there is is no such strategy or even the hopes of such a strategy. And to be cynical, there almost can’t be in America’s current political environment. If politics is the art of the possible, then American politics is the art of the impossible, of arguing that all the things can be done and somehow all the fiscal math will reconcile itself out.
It was popular during the Iraq/Afghanistan years to make reference to historian Paul Kennedy’s use of the term “imperial overstretch” in his magnum opus The Rise and Fall of the Great Powers. The idea is that empires (or nations) tend to fall when they start getting far too ambitious with their own designs on the world compared to their economic and fiscal bases. Instead of fighting one war, the empire fights four — simultaneously — even as climate change cuts crop production and spreads widespread famine.
References to the theory never made much sense during the counterterrorism era, since America could ultimately afford to spend tens of billions a year on supplementary defense appropriations per year (dubbed Overseas Contingency Operations) without causing a deep fiscal crisis.
The strategic question for the decade ahead is whether a highly-indebted country with a generation of retirees hitting their pension years can afford the far larger outlays required to prevent China from gobbling up Taiwan (and perhaps other territory in East and Southeast Asia). Would we cut entitlement programs to deepen spending on global defense? Would we cut defense investments in some regions of the world (namely, the Middle East) to migrate those resources to the theater where we need it? Can we give up doing everything, everywhere all at once to do something, somewhere in a little while?
That’s not an easy conversation for America to have, but it is the difficult conversation the country needs. Tens of billions of dollars in subsidies for semiconductors, solar power and climate mitigation is a good investment, but does the value hold up given all the implicit tradeoffs those subsidies require?
America’s spending has ballooned along with its ambitions (or at least its largess). But that balloon is stretching to its limit, and not unlike a certain Chinese spy balloon, feels ready to pop — or worse — to be pierced by an adversary.
- Our scientist-in-residence Sam Arbesman recommends sci-fi writer Ted Chiang’s take on ChatGPT in the New Yorker dubbed “ChatGPT Is a Blurry JPEG of the Web”. Chiang, whose fame skyrocketed with the publication of his short-story collection Exhalation, writes “This analogy to lossy compression is not just a way to understand ChatGPT’s facility at repackaging information found on the Web by using different words. It’s also a way to understand the ‘hallucinations,’ or nonsensical answers to factual questions, to which large language models such as ChatGPT are all too prone.”
- Sam previously recommended Gabrielle Zevin’s novel Tomorrow and Tomorrow and Tomorrow, but having started it myself, I must say it is wonderfully crafted and I can understand why so many people have recommended it to me. Poignant, nerdy and fun.
- Sam recommends a Caltech research group’s exploration of Leonardo Da Vinci and his understanding of gravity. He was centuries ahead of his scientific descendants, although didn’t quite nail gravity’s mathematics (what a loser!).
- Yevgeny Prigozhin, the founder of Russian mercenary firm Wagner Group that has been heavily deployed in Ukraine, has grown in profile with, well, a panoply of profiles by publications the world over. I enjoyed this particular profile by Shaun Walker and Pjotr Sauer in The Guardian on “The hotdog seller who rose to the top of Putin’s war machine”.
- Sam recommends Tom Scott’s video essay on ChatGPT and generative AI titled “I tried using AI. It scared me.” Scott, a popular YouTube creator (one of my favorites of his is Why the US Army electrifies this water), says, “…that feeling of dread came from the idea that ChatGPT and the new AI art systems might be to my world what Napster was to the late Nineties.”
- Finally, I recommend Michael Ignatieff’s essay in Liberties on “Epistemological Panic, or Thinking for Yourself”:
The qualities that make a good thinker are not the same as make a good citizen. Civility and politeness are all very well in society at large. Good manners are a lovely attribute, but in intellectual life the instinct to be nice and to be liked can be fatal. Rigorous thinking must be followed wherever it leads. The unpleasantness of controversy is inevitable. Everybody cannot be right. This is yet another instance where the ethos that liberal democracy encourages — civility, deliberation, compromise — is in radical contradiction with the intransigence proper to scientific and humanistic discovery. In politics, in ordinary life, compromise is good, even necessary. In reasoning and research, by contrast, you must be a fighter, tenacious, persistent, stubborn in your insistence that someone’s argument is wrong and yours is closer to the truth that you are both pursuing.
That’s it, folks. Have questions, comments, or ideas? This newsletter is sent from my email, so you can just click reply.