This Week: North Korea yells a lot, I get ranty about Cyprus, and Pakistan's government makes it.

Welcome to the Dispatch for March 7 - 18!

North Korea

In an unanimous vote, the UN Security Council passed a new round of economic sanctions against North Korea following the country’s recent nuclear test. In response, the DPRK declared the 1953 armistice agreement with South Korea nullified and began making motions to prepare for military action, though only rhetoric has followed so far.

NightWatch has been following North Korea’s actions closely, and much of the below is at least informed by his analysis - if you’re interested in more information, I encourage you to subscribe to NightWatch.

NightWatch notes that the DPRK has taken several “high-cost” actions that indicate preparation for a conflict above and beyond the normal cheap rhetoric and military tours. Many high-ranking officials are now living underground, reserve units have been called up, and non-military industrial production has been halted. NightWatch notes that these are extremely expensive actions to take, since they strongly impact civilian life, cut food production and available resources, and run the risk of promoting backlashes amongst an already restive population - this indicates the North is serious about the latest round of provocations. NightWatch judges the next two to three weeks as the most likely window for any DPRK military action, as early April is the planting season, when keeping civilian military reserves out of the fields becomes even more expensive.

It’s highly likely that the North will engage in some sort of military provocation with the South soon, though this doesn’t mean they want an actual war - as bellicose as the rhetoric from the North is, they well know war would be suicide for the regime. The most likely scenario right now is that the North is trying to reshape the negotiating landscape, and any pending attack on South Korea will be intended to show that the armistice, and the negotiating positions built up around it, are well and truly dead. They’ve been stuck with a losing hand for a while, and with China losing patience, the North may see this as their last opportunity to secure a better deal before their Chinese patrons start really tightening the screws. The question now is what role Kim Jong-Un is really playing in all this: he’s either a 28 year old with scant leadership experience playing the most dangerous game of brinksmanship in the world, or he’s been relegated to a figurehead by the military, who rely on the constant state of near-war to justify their positions of privilege in the otherwise bankrupt state. Neither case is good.

Cyprus

On the brink for a number of years, Cyprus began negotiating a bailout from the IMF, ECB, and European Commission, collectively known as the Troika, earlier this month. The final package was agreed upon on the 15th, but it included a startling provision: a one time 6.75% levy on all deposits under EUR100,000 and a 9.9% levy on all deposits over EUR100,000. The provision prompted a bank run in Cyprus, forcing the closure of the country’s banks through this week, and the Cypriot Parliament resoundingly rejected the agreement on Tuesday. Cyprus is seeking to renegotiate the package now, and is also considering other options for obtaining the needed capital.

There’s a lot to unpack here, so let’s start with the biggest and most consequential aspect of the situation, the demand by the Troika that ordinary Cypriots’ savings be confiscated to pay for the bailout. This is the dumbest policy move from the Eurozone since, well, possibly ever - and that’s a stiff field after the last 5 years of shitty economic policy. The one iron-clad rule of banking regulation is that you never touch small savings, because that will instantly cause bank runs, which turn small banking problems into giant catastrophes. Until now, the Eurozone has insisted that small depositors are sacrosanct, even if their wages, jobs, livelihood, and chances at any sort of reasonable economic future were not, and that small concession has prevented giant queues outside banks and further bank collapses. Now, while trying to convince people that the levy doesn’t actually violate that promise, the Troika has made the worst possible move they could have, spooking not just Cypriots but anyone in any country in the Eurozone which might possibly face some form of banking hardship - which, at last glance, was just about all of them.

The baffling part is that the total bailout amount needed by Cyprus was about $10Bn, which is a rounding error for the Eurozone at large. After almost a year of relative stability, the Troika threw the entire Euro area into chaos over a bit more than half of NASA’s annual budget. There’s a lot of politics at play here: Cyprus is known as a banking haven and they’ve been playing loose with their banking regulations for a while, a lot of the money in Cypriot banks is Russian, and it’s an election year in Germany - not a great year to go hat in hand to the German public. That’s no excuse for policy this bad, though, and especially over an amount of money smaller than Yahoo!’s market cap. In general, if the amount of money required to prevent this sort of problem wouldn’t even make it onto Forbes’ top 10 list, just sign the goddamn check and be done with it.

The root problem is that the Eurozone is still treating a banking problem like a sovereign debt problem. The blueprint for Cyprus is the same as it was for Ireland and Spain: the banks collapsed, forcing the government to take on the banks’ debts, sparking a sovereign debt crisis. The real problem is that the banks should have been regulated and backstopped by the ECB in the first place, but instead of just recapitalizing the banks, the Eurozone has insisted on lending to national governments, which means the governments are now deeply in debt for the money needed to prop up the banks. That, combined with highly counterproductive austerity programs, have turned a banking crisis into an economic and political disaster. The US faced the same scenario in 2008, but because the Federal Reserve stepped in to backstop the banks directly, we’ve largely escaped the morass the Eurozone has blundered into. Until the ECB and the European Commission start dealing with the banking problem as a banking problem and stop trying to project a morality play onto the situation, they’re going to keep lurching from self-created crisis to self-created crisis.

Pakistan

On March 16, the Pakistani government completed its full 5-year term in office, the first civilian government ever to do so. Elections of a new government are expected in early May.

The PPP, Pakistan’s ruling party, leaves behind a country wracked with corruption, crumbling infrastructure and a weakening economy and facing the rise of militant islamists and social discord. Their tenure has been checkered at best, but few expected them to make it this far. I’ve been extremely pessimistic about Pakistan this year, and I still am, but this is a milestone to be celebrated.

Thanks for joining me, and my best for the weeks ahead!

Eric