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HomeDOCUMENTSCommittee Reports2010 Annual Session215 ESC 10 E bis - LONG-TERM ECONOMIC CHANGE AND THE SHIFTING GLOBAL BALANCE OF POWER

215 ESC 10 E bis - LONG-TERM ECONOMIC CHANGE AND THE SHIFTING GLOBAL BALANCE OF POWER

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SIMON VAN DRIEL (NETHERLANDS)
GENERAL RAPPORTEUR

I.  INTRODUCTION: FINANCIAL CRISIS AND TECTONIC SHIFTS IN ECONOMIC AND STRATEGIC POWER

   A.AN HISTORICAL PERSPECTIVE

II.  THE PROSPECT FOR AN IDEOLOGICAL CHALLENGE TO THE WESTERN LIBERAL CONSENSUS

III.  THE MONETARY DIMENSION OF A SHIFTING ECONOMIC BALANCE OF POWER

IV.  DEMOGRAPHIC AND EDUCATION CHALLENGES

V.  DEFENCE BUDGETS

VI.  THE POTENTIAL FOR A CO-OPERATIVE INTERNATIONAL ORDER: ALTERNATIVE SOURCES OF INFLUENCE

VII.  CONCLUSIONS

BIBLIOGRAPHY


I. INTRODUCTION: FINANCIAL CRISIS AND TECTONIC SHIFTS IN ECONOMIC AND STRATEGIC POWER

1.Profound changes in the global order have marked the past two decades: the fall of the Berlin Wall, the evisceration of Marxism’s power of attraction and the accelerating and profound transition from centrally planned economies to more liberal markets in Eastern Europe, India and elsewhere.  It was soon after the collapse of the Soviet system that some began to celebrate the “end of history” and the final triumph of liberal democratic and market paradigms that many had hoped would henceforward provide the foundation for sustained peace, stability and prosperity.

2.But 9/11, the end (at least for the moment) of Russia’s initial experiment in democracy and free markets, wars in Iraq and Afghanistan, mounting tensions over weapons of mass destruction, and the global financial crisis in all its manifestations in both the developed and developing worlds suggest that history is very much alive and that the great global convergence upon liberal democratic values remains more an ideal than a reality. There has also emerged a renewed challenge to the classical liberal view that market economies invariably operate with each other in organic and mutually beneficial ways. Clearly, the current crisis suggests otherwise, and, at the very least, opens the possibility that unsupervised markets can tend to chaotic disequilibria and not always the maximisation of “happiness”, as classical liberal thinking would have it. We, in the West, have moved quickly from euphoria to a kind of cultural despair and there is a pervasive sense of lost confidence, revealed in rising political polarisation and eroding consensus.

3.Part of the problem is that while the world has changed radically over the last 20 years, Western thinking has not necessarily kept pace. First of all, the categories of thought to which we are accustomed sometimes seem increasingly irrelevant. The West, as such, has long tended to treat matters of economic and security policy in discrete boxes.  Those working on security issues tended to ignore economic issues as long as their budgetary requirements were met. Those working in the economic realm were inclined to ignore security matters as long as risk premia remained manageable. Today, such distinctions seem both inadequate and artificial. They are, of course, the product of a liberal world view, which conceives of markets as operating autonomously under rules that have little or nothing to do with the world of politics. Yet, markets and States, commercial life and politics, and economics and security, are all deeply interrelated and highly interdependent. US President Obama recently acknowledged as much, when he wrote in the introduction to the National Security Strategy paper: “[o]ur strategy starts by recognizing that our strength and influence abroad begins with the steps we take at home. We must grow our economy and reduce our deficit. We must educate our children to compete in an age where knowledge is capital, and the marketplace is global. We must develop the clean energy that can power new industry, unbind us from foreign oil and preserve our planet. We must pursue science and research that enables our discovery...  Simply put, we must see American innovation as a foundation of American power.”

4.The analyst Robert Pape defines power in international politics as “the aggregate resources a State has at its disposal to achieve its aims, the most important of which is to defend its national interests both at home and abroad”.  The critical issue here is, however, not how much power a State holds, but rather how much it has relative to other States”.  In other words, power must be considered not in absolute but rather in relative terms, and there are myriad factors that condition relative power including national military alliances and a national disposition or will to play an active role on the regional or global stage. Of course, political leverage exercised through military means largely hinges on the size and capabilities of national military forces, the control and guidance political leaders exercise over those forces, and the economic sustainability of national military establishments over the long haul. This, in turn, suggests that the economic foundation of military power is a central and not a peripheral factor in determining power relations among States; the utter economic breakdown of an economically irrational regime was, for example, a critical factor in the Soviet Union’s collapse - something that is often forgotten by those championing the mythical and transformative qualities of missile defence.

5.The productive capacity of a State or of a group of allies is defined by indicators like national wealth and growth projections, financial health, fiscal sustainability, education, technology, the unity of the polity, and broad demographic trends (Pape). Power as such is difficult to gauge as it involves military capabilities, internal cohesion, a national capacity to define international objectives and the means and will to achieve these, and by the capabilities and perceptions of potential rivals. There have always been fundamental links between power and prosperity. However, it is a propitious moment to re-examine this relationship with a long-term perspective.  A world-wide financial crisis transmitted across ever denser financial and trade links has now originated in the very heart of Western capitalism. This has raised tough questions about shifting global economic and power relations and the longer-term prospects for the West.  Indeed, there is an argument in some circles that some kind of tectonic shift may be underway in the global economic balance of power that could recast broader power relations. Not surprisingly, a strident debate among strategic thinkers and political economists has begun to explore what the implications of these changes might mean for the international system and the global balance of power. Although the discussion is not without controversy, it is one well worth monitoring, and that is precisely the purpose of this report.

A. AN HISTORICAL PERSPECTIVE

6.At the beginning of the 19th century, Europe and North America together generated roughly 32% of the world’s GDP. By 1950, the year after NATO’s founding, that figure had jumped to 68% in purchasing power of parity (PPP) terms, and by 2003, it stood at 47%.  Current growth trends suggest that in 2050 the portion of global GDP that Europe and North America produce will stand at only 30% of what it was in 1820 (Goldstone)! The current crisis may even be accelerating these trends, although it would be premature to assess its long-term impact.  At this moment, however, a number of the world’s emerging economies have returned to vibrant economic growth while the US is barely sustaining a very mild recovery and a number of European countries remains mired in low to no growth and high unemployment (OECD).

7.Although Europe’s dilemmas in 2010 have attracted a great deal of attention due to serious problems in Greece, Portugal, Spain and Ireland, strategic analysts and political economists have been particularly focused on the current economic plight of the United States. That is hardly surprising.  The United States has long been the lynchpin of the Western security system and the primary architect of the global financial and economic order, as well as the world’s indispensable engine of demand.  It has both benefited from and made sacrifices on behalf of that system; yet continuing to act as the guardian angel of the international economic order has become politically more difficult, as economic conditions have worsened and as the United States has confronted new economic rivals on the global stage. The United States is also increasingly focused on developments in the non-Western world, particularly in the Far East and in Asia, and this too can trigger concerns among its allies.  The economic dilemmas of the United States have raised questions in some circles about its future capacity to exercise decisive global leverage, and concerns about the political consensus it must muster to remain the system’s lynchpin. Others argue that the United States will find the means and the will to play this role and will thus remain the indispensable power of the global order.  Obviously, this particular debate is of central concern to the Alliance.

8.In the 1980s, the so-called “Declinists” including Paul Kennedy (The Rise and Fall of Great Powers) and David Calleo (The Imperious Economy) zeroed in on American budget and current account deficits as signposts not only of economic troubles but also of declining US global leverage. They argued that a sustained savings/investment imbalance reflected, at least in part, American international military overextension and the assumption of security burdens that its revitalised allies should have begun to shoulder. The fundamental security disequilibria were mirrored in the international monetary order. The primacy of the dollar in the global monetary system and its critical role both as the key currency in Central Bank holdings throughout Europe and Asia and as the principal source of global liquidity, had long awarded the Americans with borrowing privileges that no other country enjoyed.  The exploitation of those privileges paradoxically put the United States in an ever weaker payments position, while inexorably undermining the dollar’s credibility (Triffin).

9.As the American economy’s relative weight in the global economy fell with the post-WWII recovery of Europe and Japan and as new centres of economic dynamism like the Asian Tigers made their mark (all vindications of the United States’ global strategy), US authorities were increasingly compelled to exploit their systemic privileges. They did so in order to underwrite current account and budgetary shortfalls at least partly linked to its global military obligations as well as to its domestic social spending. In essence, so the argument went, as long as the rest of the world embraced the dollar as the key reserve and commercial currency, the Americans would be able to print money with a degree of impunity and avoid correcting persistent payment imbalances.  For years, the privilege of issuing the world’s most sought-after currency allowed the United States to maintain its global commitments without resorting to higher taxes or domestic spending cuts.  American consumption churned along without undercutting America’s global security presence. Under the Bretton Woods system, the United States was able to print dollars to cover outlays linked to the Vietnam War and the Great Society and effectively exported inflation to countries compelled to hold dollars in their central banks. This practice, however, eventually destroyed the credibility of the dollar/gold-parity system, which depended on American restraint and credibility. The system thus collapsed, ultimately giving way to the free floating monetary order which persists to this day. Almost paradoxically, however, the dollar’s “hegemonic” position endured even in the highly volatile free-floating exchange rate order that emerged out of the wreckage of Bretton Woods. This, too, would lead to problems.

10.Indeed, the return to tighter monetary policies under the leadership of Federal Reserve Chairman Paul Volcker did not prevent President Ronald Reagan from embarking upon a massive defence spending programme that was certainly one of a number of factors leading to the Soviet Union’s ultimate collapse.  That spending spree, however, triggered a massive increase in US budget and current account deficits largely financed by Japanese purchases of American treasury bills, which were mirrored in ever mounting US trade deficits with that country. Indeed, the federal debt grew from 33.3% of GDP in 1980 to 51.9% in 1988, while the budget deficit as a percentage of GDP doubled to 6% between 1980 and 1983. US domestic and international borrowing soared while the national debt rose from US$700 billion to US$3 trillion, suddenly moving the US from the world’s greatest creditor to the world’s largest debtor (Weisman). Soaring interest rates provoked by a tight monetary policy beginning in 1979 and exacerbated by large US budget shortfalls, attracted capital from the rest of the world and helped finance these debts. This, in turn, led to calls from the US to its allies to appreciate their currencies and thereby stimulate demand for US exports (Gilpin).

11.These deficits have since become a central feature of America’s international economic profile. But while these were seen by the “Declinists” as both a manifestation of US strategic overextension in the 1980s and as economically unsustainable, they were largely ignored in the 1990s, particularly after the collapse of the Soviet Union. Indeed, the disintegration of the Soviet Union was broadly welcomed as a vindication of US global strategy of engagement and containment, and there was, accordingly, a great sense of triumph in the writing of Western strategic analysts in that decade. The American vision for a liberal world order had prevailed. The United States had emerged from that semi-frozen conflict as the world’s sole remaining superpower, ushering in an era of declining military tension, defence spending reductions (“peace dividend”), and ever mounting prosperity. At the same, Japan, which many doomsayers had expected would eventually bury the West economically, entered into a period that was subsequently labelled its “lost decade”.

12.The United States and its allies were suddenly positioned to slash what some saw as burdensome defence budgets. By the mid-1990’s economic growth rates were rising particularly in the United States, where a hightech boom was underway - again partly financed by persistent capital inflows. The US entered its longest economic expansion in history, which endured until 2008 (Joffe). President Clinton even managed to run a brief budget surplus as a result of solid economic growth and tax hikes. Yet, the US current account deficit mounted almost inexorably and always financed by willing international lenders. The dollar’s status as the international system’s key reserve currency ensured a booming market for dollar debt, and this, combined with America’s apparent economic vibrancy, naturally facilitated continued American borrowing.

13.Europe also entered a fairly optimistic period, driven in part by the promise of engaging the emerging democracies of Central and Eastern Europe in the European Union’s political and economic life. Significant defence spending cuts opened up fiscal space for this project, while ensuring the continuation of generous social welfare programmes on the continent.  Meanwhile, the EU’s core countries prepared to abandon national currencies for the euro. This promised to hasten integration within the euro area, to trigger a far greater degree of economic policy convergence, and implicitly to create a new currency rival to the heretofore hegemonic US dollar. Fiscal policy, of course, was left out of Europe’s grand bargain - something which would later come to haunt this project. Only now has the European Commission taken on the task of reviewing the budgetary plans of Euro members.

14.Other developments might suggest that the unipolar moment of the United States was just that. China’s sustained and breathtakingly rapid economic growth has made it simultaneously the world’s second largest economy, the largest exporter and soon the greatest energy consumer. It is also now the leading purchaser of American debt and is already sitting on the largest cache of foreign reserves - US$2.4 trillion at the end of 2009 (Miller). This has made it much more of a demandeur in the global monetary order. Not surprisingly, China is increasingly willing to throw around its weight, for example, by seeking more equitable representation within the IMF and other international economic bodies. On the other hand at US$3,600, China’s per capita GDP is only one-tenth of US levels and it remains vulnerable to a real-estate bubble that continues to weigh on its financial system.  Such imbalances constitute something of a reality check for any assertion that China is on the cusp of becoming the world’s hegemonic power (Anderlini). But it has now obtained the negative power to disrupt global money markets, although this is hardly in its interest (Miller).

15.Of course, the fall of Europe and North America’s relative weight in the global economy is not simply related to China’s rise. India and Brazil have also “taken off”. Like China, they have emerged swiftly from the current global crisis and are now helping to drive growth in the world economy (OECD). Several years ago, many economists dismissed the notion that these emerging economies would become global economic engines. That they are today suggests how quickly the global economic landscape has shifted.

16.According to Robert Pape, structural budget and current account deficits, the rise of China, India and other emerging economies, and technological diffusion have triggered “one of the largest relative declines in modern history. Indeed, in size it is clearly surpassed by only one other great power decline - the unexpected internal collapse of the Soviet Union in 1991” (Pape). A shifting economic balance of power poses a range of dangers, because great powers that face worsening economic conditions are likely also to confront mounting challenges by opportunistic rising powers. History suggests that declining powers can be tempted to use preventive war to stem the challenger’s rise, although invariably this hastens rather than slows the process. A more coherent approach to preserving power in the face of new challenges requires achieving a sustainable balance between a State’s economic resources and its foreign and security policy commitments over time. This is much easier said than done. Indeed, properly adjusting to shifting domestic and international economic realities and discerning between genuine strategic threats and distractions that might squander power and wealth poses a welter of political, economic and strategic challenges. These are rendered all the more daunting, insofar as domestic expectations and external obligations tend to encourage preservation of the status quo when, in fact, imaginative domestic and foreign policies are needed to rebalance resources and obligations.  Europe and the United States are both confronting this dynamic. Mounting fiscal woes linked both to the global economic crisis and to longer-term structural deficiencies in national economies will render these choices increasingly stark, particularly if corrective action is delayed.

17.Finally, this almost classical narrative about the cyclical nature of power in contemporary international relations must include consideration of other patterns and new but compelling forces in international relations.  Environmental and energy sustainability are two factors which are likely to drive State relations over the next century. The eminent economic historian Niall Ferguson has warned that these kinds of forces and highly complex economic linkages can induce not the downward glide of relative decline favoured by classical scholars of international relations, but rather more cataclysmic collapses reminiscent, for example, of the sudden evisceration of Mayan civilisation. His argument is that great powers are highly complex systems that operate on the edge of chaos. These systems are characterised by the interaction of dispersed agents which the “centre” cannot control, multiple levels of organisation, continual adaptation, the perpetual creation of new markets, and the absence of general equilibrium as conceived by Adam Smith and Ricardo.

18.In such systems the cause and effect in shifting power relations can be highly difficult to ascertain and small events can potentially trigger cataclysmic changes. Who would have thought that the fall of US housing prices would induce a global economic panic?  Ferguson suggests that the notion of sudden great power collapse is not an abstract one. The Soviet Empire collapsed without war and did so in an instant, at least in historical terms. He notes that there is almost always an important fiscal narrative involved in these events and believes that alarm bells should be ringing given the mounting budgetary problems of a number of key Western countries.  The link to military power is not incidental: “[I]f interest payments consume a rising proportion of tax revenue, military expenditure is the item most likely to be cut because, unlike mandatory entitlements, it is discretionary.” (Ferguson)  This aptly describes the situation in a number of NATO countries.


II. THE PROSPECT FOR AN IDEOLOGICAL CHALLENGE TO THE WESTERN LIBERAL CONSENSUS

19.Another important phenomenon is the weakened ideological component of rivalry - certainly when compared to the Cold War era.  The British analyst, Sir Lawrence Freedman, has suggested that under normal circumstances this would be a propitious moment for an ideological competitor to challenge the dominant liberal capitalist ethos to which Europe and the United States have long subscribed. The current economic crisis has certainly created space for such an ideological challenge, but no power has stepped into the breach simply because there is no compelling alternative to today’s liberal economic order. The emerging powers, for example, subscribe to the key features of the capitalist ethos and are “emerging” precisely because they have embraced open markets.  China’s lack of democracy and its mounting use of nationalism as a rallying point for its citizens pose few compelling challenges to Western liberal ideals.  One notion which has gained some currency, however, is that China’s experience demonstrates that market reform can proceed without democracy. There are concerns that the Chinese are promulgating this particular perspective in Africa where its influence has increased substantially thought its aid, trade and development policies. There are concerns that this is undermining Western support for democratic development. Some have argued that economic liberalisation could be laying the groundwork for greater pluralism and perhaps ultimately for democracy, which, in any case, may take decades to construct. Indeed, since the introduction of market reforms in China, there has been a broad movement toward greater personal freedom and autonomy there, even if political freedoms in that country remain strictly and tragically circumscribed. In political terms, of course, China remains thoroughly illiberal. Yet, most Western governments justify their deepening engagement with that country not only out of a sense of realpolitik and opportunity, but also out of the notion that China has become more plural and could become even more so if properly engaged. 

20.Potential contradictions between market opening and authoritarian one-party rule in China could one day trigger either an internal crisis, or perhaps or a deeper embrace of pluralism. In any case, China approaches the world well aware of these frictions. This, as well as the fact that it remains a developing country with millions of people living below the poverty line, will likely constrain China’s international ambitions. Indeed, China is sometimes described as a brittle power which lacks flexibility and internal cohesion and which is ever more dependent on rapid growth to sustain the governing system’s legitimacy. In this view, China’s capacity to pose a robust challenge to the liberal international order of the Atlantic world, might be more limited than is often suggested. On the other hand, China has become the preeminent economic power in Asia and it, not the United States, is now the key trading partner for most Asian States.  It is therefore a country of great strengths as well as vulnerabilities (Roach).

21.Similarly, Russia’s retreat from multiparty democracy and open markets will create difficulties for Western nations, but it will engender infinitely more tribulations for the Russian people and their immediate neighbours. The highly inefficient allocation of resources in Russia, arising out of its peculiar form of State-oligarchic capitalism as well as pervasive corruption - which seems endemic to that particular system of rule -, will constitute a continued source of weakness although it will make Russia a difficult and unpredictable partner for the West. If Russia’s rulers cling to this model of governance, they will have little choice but to rely ever more on the country’s energy sector for economic sustenance and international suasion. The model may potentially be attractive to oligarchies in other energy rich countries, but it hardly generates global appeal.  An oligarchic and authoritarian Russia is not a welcome prospect for the West and for NATO given its policies toward its neighbours, its politicised energy strategy and eroding human rights conditions, but it is at least manageable insofar as it does not pose compelling systemic or ideological challenges. Its greatest problem may be that the lack of Russian economic and demographic dynamism may ultimately tempt the Chinese.

22.In contrast to Russia and China, India and Brazil are democratically organised. Their longterm prospects could be more promising and thus reinforce many of the political and economic values the West seeks to advance. Their governments are managing enormous economic change through democratic means and are able to generate social and political consensus as they move up the production ladder.  Neither can advance new policies with the alacrity and cohesion of China, but this has the virtue of beginning from a solid foundation of democratic consensus. This is obviously not the case in either China or Russia, where there is a risk that pent-up grievances could eventually generate political and social instability and thereby limit flexibility and external ambition. Of course, even democracies confront potential problems and India, for example, confronts both domestic and regional sources of instability.

23.All of this hardly suggests that the BRICs (Brazil, Russia, India, China) will not pose challenges to the West; indeed, they are doing so on several fronts. Above all, economic growth will help these countries purchase military capabilities and political leverage. None comes even close to rivalling American military capabilities today, but adopting a longer-term perspective here is essential. Doing so suggests that the gap is likely to narrow over time. Even today we see signs of growing assertiveness, and ever stronger military capabilities will only stoke greater assertiveness.  It should also be noted that BRICs are hardly a unified group. At least among Russia, China and India the signs of growing rivalry are apparent and this is one reason why Russia, which has been most struck by the economic crisis has begun to make renewed overtures to Europe (Fidler).  Finally, it is worth noting that in the most recent global competitiveness rankings the United States fell two places to 4th, Germany climbed two notches to 5th and Japan was 6th while China moved to number 27, India to 51, Brazil to 56 and Russia was in the 63rd spot. In other words, the gap between the world leaders and the up-and-comers remains significant (Hilsenrath).

24.The signs of growing BRIC assertiveness are everywhere apparent. China has made rapid advances in electronic warfare and anti-ship ballistic missiles (Entous). It is building up its naval presence in Asian waters and is capable of projecting force ever further from its coastline. India and China both dug their heels in at the Copenhagen Summit on Climate Change and essentially prevented the international community from adopting a serious set of emission reduction commitments.  China’s development strategy in Africa, which is tightly linked to its quest for new sources of essential raw materials, challenges concerted international efforts to encourage aid transparency among donors and good governance among aid recipients. By disregarding and, in some cases, undermining those standards, the Chinese are weakening Western development efforts and the hard work of African reformers. More generally, the BRICs seem increasingly inclined to use their new found leverage in all manner of international rule-making bodies. Indeed, the rising position and leverage of these countries has been essentially ratified by the G-20s replacement of the G-8 as the central forum for advancing global financial governance matters. It is hardly surprising that these countries are now exercising more influence in the IMF, the World Bank, the UN and the WTO, although Russia is not yet a member of the latter.

25.The BRICs, however, do not currently pose a fundamental challenge to the basic structure and stability of the international system and the rules that govern it. This could change were internal politics to shift in these countries or if the international status quo were somehow to pose a threat to their internal order, but the overriding mechanism in play for now is that the BRICs and other emerging powers hold an important and growing stake in the current order. This represents a significant departure from the dynamics of the Cold War era, when the challenge to the West had both security and fundamental ideological dimensions. China today is very different from the China of the Cultural Revolution. It no longer harbours avowedly revolutionary ambitions for the international system and speak only of a “peaceful rise”.  On the other hand, China’s diplomatic activism in Africa runs against the grain of current development practices and its quest for raw materials and even water could some day trigger a more serious conflict with the West. Russia today, of course, while not democratic, has nonetheless abandoned the global revolutionary pretensions of its Soviet predecessor. For its part, India appears to have set aside its non-allied identity and today engages the world in a much more sophisticated manner befitting a country that has a clear set of stakes in the global economic and security order. Yet, India’s persistent tensions with Pakistan have both domestic and international implications and can be understood as one of several important challenges to India’s emergence.

26.But there are other challenges from without and within.  Identity-based movements, for example, could continue to generate regional and possibly global security challenges. Extreme political Islamism, for example, sets itself up as rival to the liberal democratic order, and while it has exercised a certain attraction, particularly in undemocratic and/or marginalised Islamic societies, it offers no viable organising principle for generating wealth and technological advance. Its capacity to attract a broad base of adherents and to pose a potentially potent ideological challenge to liberalism is somewhat limited, although it has become a convenient cover for political dissent in highly repressive societies.  Radical forms of political Islam have managed to capture important States like Iran, which do pose a serious regional challenge. Moreover, these movements hit the West at a point which is a central feature of their civilisational power and yet also a vulnerability - their openness - and they seem willing to employ asymmetric strategies to do so.  Again this is manageable although were one of these groups to procure weapons of mass destruction, it could also pose a strategic challenge to the West. The acquisition of such weapons is of course no longer the preserve of developed States, as the North Korean case suggests.  The potential for sub-State actors to acquire these weapons does pose a more existential challenge to the West.

27.Some challenges to the liberal consensus might also emerge from within the Western community of nations, although these will likely unfold at the margins rather than at the centre of political life. Populism and nationalism will grow stronger if the perceptions arise that those governing from the democratic centre are no longer able or willing to affect positive change. At present, such forces are being contained, at least in well-functioning democracies. However, giving in to these pressures, for example, by responding to the current crisis by engaging in generalised trade protectionism or other forms of unilateralism would inflict daunting economic and political costs on the Western community of nations.

28.Finally, within the West, important discussions about managing economic change are underway, but these are more focused on redrawing the line between State and market than on attacking the underlying structure of political and economic liberalism. Indeed, many of the recent interventionist measures, which have brought the State into the centre of national financial and commercial life, are temporary responses to the ongoing crisis (Freedman). Still, there is a sense that a greater governance role for the State and indeed for the international community may now be inevitable. This will trigger internal tensions particularly in those societies which have long sought to minimise the State’s role in economic life.  Of course, overly burdensome intervention risks politicising international commercial and financial life and would impose dead-weight losses on national economies. In a harsher economic climate, international economic rivalries could become starker, particularly if States become more directly vested in national commercial decision-making. With rising economic powers demanding a great role in global decision-making and with status-quo powers seeking to defend what they see as their prerogative powers and privileges, international tensions might emerge from the shifting balance of economic power both within national societies and internationally.

29.Thus, it is ultimately very difficult today to find either within Western societies or beyond them an attractive ideological alternative to the current liberal consensus. This, of course, is highly advantageous to the Western community of nations, which are the most comfortable exponents of this consensus. This should not imply, however, that Western countries do not face serious challenges. Almost by definition, emerging powers will seek to acquire new sources of leverage to resist Western ambitions that they judge not to be in their interests. This will invariably reconfigure the way policy choices are presented and made.  It is worth noting, for example that several emerging economies, including China, are now flush with cash and have enjoyed far more discretionary power to cope with the current crisis than their Western counterparts (OECD). The key question is whether this is a temporary state of affairs or if it reveals a more enduring shift. China, however, also confronts long-term demographic problems that will pose very serious fiscal burdens later in this century.


III. THE MONETARY DIMENSION OF A SHIFTING ECONOMIC BALANCE OF POWER

30. As suggested above, for 50 years, the US dollar has been the anchor currency of the international system.  Anchor currencies are not only critical to maintaining global financial stability, they are also manifestations of real power and are powerful sources of influence. The dollar’s emergence after World War II effectively ended an extended crisis in the interwar period. When sterling could no longer play the anchor role, Western countries engaged in an anarchy of “beggar thy neighbour” devaluations that triggered an economic and diplomatic crisis - all contributory elements of World War II. The lessons of that period informed the post-war international financial order constructed at Bretton Woods and premised on fixed but adjustable exchange rates and dollar-gold parity.  That system created a payments order for the revival of global trade. It also gave Western States the space and guarantees to pursue autonomous social welfare policies and to introduce Keynesian demand management strategies designed to kick-start the post-war economic revival, which quickly turned into an “economic miracle”. The United States was seen as the system’s hegemonic guarantor, because it was the only global power with sufficient wealth, political leverage and reserves to play that role.

31.Although that system initially flourished, it was gradually weakened from within and ultimately collapsed. The privileges of hegemony and the requirement of providing global liquidity through the dollar had allowed the United States to run highly inflationary policies that its partners were forced to finance by accepting ever more degraded dollars into their reserve holdings. That system ultimately gave way to a system of floating exchange rates that more or less remains in place today. Yet, the collapse of that system did not end the dollar’s key reserve status. It has persisted as the currency of choice for central banks, bond issuers, and commercial and commodity traders. Global demand for dollars continues to confer privileges upon the US government, which have allowed it greater financial flexibility than its partners and rivals. For decades, the dollar’s continued predominance has facilitated US efforts to finance ever mounting current account and budget deficits.  Indeed, the lack of perceived alternatives to the US dollar has accorded the United States ample margins to run deficits that in other countries would have been quickly judged to be unsustainable (Bergsten).

32.It is often not recognised that this unique currency privilege has a security dimension.  The global defence posture of the United States is highly expensive, and US taxes only partly underwrite its costs. The difference has largely been financed by foreign lending. The situation today has become particularly problematic for the United States, however, as one of its primary lenders, China, is also one of its potential strategic rivals. This state of affairs partly curtails the strategic benefits of a dynamic and large military establishment. It is perhaps not a coincidence, for example, that China quietly began selling dollars on global financial markets just as the United States announced a series of military sales to the government of Taiwan. By dumping dollars on world markets, Chinese authorities were signalling their displeasure with US policy toward Taiwan as much as they were expressing a desire to diversify central bank exchange holdings. This simple example suggests that sometimes the leverage gained by acquiring military force might be lost by the liabilities and vulnerabilities associated with funding it. Again, this points to the need for careful strategic calibration in a world of known and unknown risks.

33.At the same time, of course, China itself has become hostage to the unhealthy dynamic of renminbi-dollar relations. In the view of many, Chinese authorities have so favoured the export sector through its undervalued exchange rate that it now suffers from dangerous export overcapacity. Years of undervaluing the currency have fostered a misallocation of capital and China’s domestic sector, including healthcare, education and infrastructural development, has suffered as a result. This could prove a genuine source of weakness for China - a problem that Chinese authorities quietly acknowledge. Indeed, there have been steps in recent months to abandon the peg and allow the renminbi to begin to appreciate against the dollar. This was announced just prior to the Toronto G-20 meeting in June 2010, effectively pre-empting those who wanted to put this matter on the agenda for that summit (Dyer).

34.Other global players have also become attached to the monetary status quo despite its inherent instability and riskiness. This points to a kind of tragic flaw in the current global order, in which a defective status quo tends to trump an unknown alternative, at least until the system collapses. The existence of a globally traded and globally accepted currency - the US dollar - with both commercial and reserve qualities has clearly facilitated globalisation and reduced transaction costs across the board.  By purchasing American dollars, Japan, China and other countries have been able to depress the value of their currencies and to generate large and persistent trade surpluses with the United States. In so doing, they made Americans the world’s consumers of last resort. The problem today is that the American people now confront a credit-savings crisis. The Obama Administration warns that US consumers no longer have the capacity to buoy global consumer goods markets. Indeed, the current recession has already triggered a degree of adjustment, as the US current deficit has narrowed and domestic private savings have increased (public savings, however, have moved in the opposite direction).  There are also concerns that the US trade deficit has become structural. The country’s growth now seems correlated with a worsening trade deficit. This may, at least partly, reflect the fact that so much American manufacturing has been off-shored to Asia and elsewhere. This, in turn, could be the reason why rising demand for US products does not necessarily imply that these will be made in the United States. Were the renminbi and other Asian currencies to appreciate, however, some manufacturing might relocate back to the United States.

35.It seems almost inevitable that a more profound and painful systemic change in the monetary order will be required over the longer term. Many macro-economists feel that the best way to build stability into the current order would be to encourage far greater domestic spending in China and far more savings in the United States. Getting to that point, however, would have profound effects on income distribution in both societies (Bergsten). The United States is likely to confront pressures to bring its current account deficit to or below what is generally understood to be a sustainable level of 3% of GDP. This is one reason why the Obama Administration has called for an export - rather than consumption-driven recovery - a path which would be consistent with the need to move toward a balanced budget, debt reduction, increased private savings and global exchange rate adjustment -, i.e. a fall of the dollar and an appreciation of the renminbi.

36.Of course, real income and distributional effects would come into play were such a transition to come about.  Bolstering US government savings will be particularly difficult given its array of social and military commitments, the political and ideological difficulties associated with raising taxes, and the fact that recession has had a highly adverse impact on government receipts. Certainly in the near term, any sharp reduction in public spending or significant tax increase would further weaken growth. Yet, the United States will eventually need to move toward a more sustainable budgetary/current account position - preferably in a manner that would mitigate rather than exacerbate business cycle swings. This would mean running budget surplus in high growth years and deficits on the downswing. The political system in that country, however, is not particularly suited to such fine-tuning and the direction macro-economic policy ultimately takes may very much hinge on presidential and congressional elections.

37.It is worth noting that following the collapse of Bretton Woods, Germany and Japan were highly reluctant to allow the deutsche mark and yen respectively to assume anchor currency functions, and both economies lacked the sheer depth of the US market to make this feasible. The creation of the euro, however, marked an important change in the game. Its very formation was partly premised on European unhappiness with global exchange rate instability in the postBretton Woods era. Indeed, sharp exchange rate fluctuations in a free floating system can impede trade and investment while generating precipitous falls in the value of assets held by individuals and central banks. The creation of the euro was designed to provide a safe monetary haven for its member States as well as a source of internal discipline. But stability has proven elusive although euro members have been spared fluctuations within the bloc.  Over the past decade, however, the dollar has fallen by substantially against the euro since the euro’s introduction. Yet, the euro has so far not been sufficiently robust and flexible to take on the dollar’s extensive reserve and transaction roles, although it has made great progress on both fronts. Trade in oil remains dollar-denominated. Moreover, the crisis in Greece and the acrimonious fall-out among euro members over a range of policy matters suggested that the euro project might be plagued with serious structural and political weaknesses. There was little hard fiscal policy coordination in Europe and, at times, there can be an apparent lack of consensus among European leaders on issues ranging from fiscal policy to bailing out struggling member States. Within the euro system, there have apparently been incentives for free-riding and a lack of disciplinary tools to compel wayward States to return to budgetary discipline.  All of this was undermining the currency’s credibility and raising important questions about its potential as a global reserve and transaction currency to rival the dollar. It is important to note, however, that Europe tends to use problems like these as launching pads for deeper coordination and integration. There are signs that this is the case since the Greek crisis broke and steps are now being taken to deepen fiscal co-ordination among euro members.  Europe does move slowly but it tends to move in the right direction.

38.Finally, the Chinese and others have also floated the idea of reinvigorating the SDRs (Special Drawing Rights) to create another alternative to the dollar. This could help countries build reserves without having to run large trade and current account surpluses, and thereby reduce pressures on the global trading system. The G-20 agreed in April 2009 to create 250 billion in SDRs which were then allocated to the IMF in August 2009. SDRs could theoretically help countries diversify their respective reserve holdings without wreaking havoc in global trade markets (Bergsten). The problem here is that SDRs are not highly liquid, and that there is virtually no private market for them. Corporations do not issue bonds in SDRs and they are not used as a measure of value in international trade. Until market players are willing to be paid in SDRs, they will not be in a position to assume the robust role long played by the dollar (Eichengreen).


IV. DEMOGRAPHIC AND EDUCATION CHALLENGES

39.Demographic developments represent yet another factor in long-term economic and geostrategic change. Over the next 40 years the developed countries’ share of the total global population will fall by roughly 25%. These countries are ageing rapidly, and the financial burden of caring for older, non-working citizens will invariably impinge on their growth.  Meanwhile, most of the world’s expected population growth will take place in what are today the world’s poorest and youngest countries. Many are already failing to provide adequate education and employment opportunities to their citizens. Moreover, most of the world’s population is becoming urbanised.  The largest urban centres, however, are located in the world’s poorest countries, where policing, sanitation and health care are often scarce and where the risk of social and political unrest is greatest.  Precipitous population growth in these regions without sufficient productivity and economic advance could well generate regional and potentially global insecurity and instability (Goldstone).

40.Today, the proportion of people aged 60 or older in China and South Korea is 12-15%. It is 15-22% in the EU, Canada and the United States and 30% in Japan. These percentages will increase dramatically over the next 40 years. In 2050, 30% of Americans, Canadians, Chinese and Europeans will be over 60, as will more than 40% of Japanese and South Koreans. The longterm impact of China’s one-child policy will have made itself evident by 2050 and will almost certainly act as a break on that country’s economic growth. At the same time, Europe is slated to lose 25% of its prime working age population by 2050, while its 60 and over population will have increased by 46% (Goldstone).

41.The United States currently enjoys a higher fertility rate than Europe as well as more elevated levels of immigration, both of which accord it certain long-term demographic advantages. By 2050, the US median age will be the lowest of any of the world’s great powers except India (Joffe). As a nation of immigration, it has a certain facility for integrating newcomers despite persistent and vocal domestic opposition to illegal immigration and even to certain forms of legal immigration - an opposition which has now been galvanised by the difficult job market in the United States (in Europe, there is perhaps even greater reluctance to look to immigration as a way to resolve these demographic problems). In any case, the working-age population in the United States is set to increase by 15% over the next 40 years, although this growth rate is far below 20th century trend lines. Yet, by 2050 the 60 and older population in the United States will have doubled, placing enormous strains on the US social security system unless new ways are unearthed to fund that programme. Thus, while the United States is in a somewhat better demographic position than its European allies over the long term, it too will need to create significant fiscal space to accommodate an ageing population and meet employers’ demands for labour. In both Europe and the United States therefore, demographic trends can be expected to impinge on long-term economic growth, the quality of health care and even military strength.

42.That said, demographic challenges in potential rival countries like Russia and China could be even more daunting. China must confront potentially catastrophic demographic deterioration, and it will have to do so in the absence of a democratic dialogue. This could trigger internal tensions in that vast and highly complex society, and China could well “grow old before becoming rich” (Joffe).  China’s ageing population will inevitably require it to move resources out of investment and into social welfare spending. This may yet prove to be another limitation on its long-term economic and strategic ambitions, although such spending would be in accordance with its need to begin to switch away from its export dependence.  For its part, Russia is in the midst of a demographic calamity. It is experiencing falling life expectancy rates due to accidents, disease, alcoholism and tobacco use. Life expectancy, particularly among working-age males, has plunged dramatically in recent years, and its fertility rate is the world’s lowest. Despite a significant increase in GNP, Russian men on average now live less than 60 years, compared with 67 years in 1985.  They live 16 years less on average than their male counterparts in Western Europe and 14 years less than Russian women (Dempsey). These changing expectancy rates and a low fertility rate are causing Russia’s population to age rapidly.  Immigration has also been falling and the country has not developed tools to integrate migrants into Russian society. Nikolay Petrov at the Carnegie Center in Moscow, reports that, "[o]ver the next 20 years, Russia will need 20 million immigrants to compensate for the labour shortage. This is the first time in which the population and labour force are declining together. It will have an enormous impact on Russia's economic and strategic ambitions" (Dempsey). If the goal of Russian leaders is to restore the country economically and bolster its international influence, it will have to cope with these ominous demographic trends. That many of these problems are arising out of startling social ills suggests that there is room to improve the situation, but so far, concerted State action has been lacking.

43.Many of the demographic factors which acted as a catalyst to growth in Europe and the United States in the post-war period will thus simply not be present over the coming decades. Some optimists hope that a declining population will provide an impetus for compensatory technological innovation (Slaughter). The Japanese, for example, have long looked to technological advance rather than immigration to cope with ageing, and this has clearly pushed innovation in fields like robotics. But, on balance, ageing populations will burden Western economies and political systems and will also have an impact on national militaries, insofar as it will become more difficult to sustain force levels. 

44.It is interesting that a number of governments have used the current financial crisis to address elements of the demographic challenge, for example, by raising retirement ages - something that had proved very difficult to implement in normal times although the long-term need to do so was evident to many economists. In the final analysis, only highly innovative leadership, finely-tuned budgetary and pension management, openness to immigration and rising productivity where possible can ease the burden. There are few signs today that such changes are in the pipeline, although impending crises will eventually have a way of concentrating the minds of national leaders and their people.  Failure to act, however, could prove disastrous. The structure of global demographic change could easily increase security tensions, as population growth will be most dynamic precisely in those countries that can least afford that change. Africa, Latin America, the Middle East and South-East Asia will all have very young populations in 2050.  70% of global demographic growth between now and then will occur in 24 countries, all of which are in the lowincome or lower-middle income categories. Of the 48 fastest most demographically dynamic countries, 28 are Muslim, a development that could further complicate Western relations with the Muslim world. Clearly, there will be both push and pull pressures to emigrate to the richer and older societies of Europe, North America and North-East Asia.  But political and cultural factors will feature prominently in how these pressures are mediated and economically sub-optimal solutions seem almost inevitable.

45.Historically, population dynamics have had militarily consequences. This will remain the case even as military technological development renders warfare a more capital intensive exercise; but the very structure of coming demographic change will pose a range of new security challenges to NATO member countries. NATO itself is “composed of countries with ageing, shrinking populations and relatively slow growing economies.  It is oriented toward the Northern Hemisphere and holds on to a Cold War structure that cannot adequately respond to contemporary threats. Theoretically, insurgents in demographically dynamic countries of Africa, the Middle East, Central Asia and South Asia could mobilise locally much more easily than NATO could mobilise the troops it would need” should it ever be called on to stabilise any one or several of those countries (Goldstone).  Afghanistan’s current population of 28 million, for example, will rise to 75 million by 2050.  This alone suggests that the task of stabilising that country is more of a longterm challenge than Western leaders care to admit. 

46.A related challenge to both the developed and developing world lies in the field of education. Developing the human capital needed to drive societies forward will require important changes. This is one area where States still exercise great control over long-term developments (OECD PISA Studies). The OECD argues that European governments will need to improve university standards to secure economic health and prosperity over the coming decades. American universities, and particularly its leading research universities, remain a critical source of US dynamism and economic strength. Many of America’s most dynamic universities operate outside of the State control but this is a model that it not likely to be adopted by European educational reformers. European government have been reluctant to be seen to favour the best university departments by rewarding these with greater funding support.  According to several comprehensive comparative studies, of the world’s top 20 universities only three are not in the US. Of the top 50, all but 11 are in the US.  India’s two best universities are in the world’s 300-400 tier, while China’s top three universities, Nanjing, Peking and Shanghai are ranked in the 200-300 group.  China today spends 2% of its GDP on education while the US spends 6%, significantly more than in India, Japan, Russia and the EU.  Moreover, American universities are funded in myriad ways. Even large public universities are not entirely dependent on the State largesse and are funded as well through tuition, alumni donations, and foundation and corporate grants. Multiple funding endows these institutions with enormous flexibility and an impressive capacity to adjust to new paradigms, to conduct research, and to train PhDs as well as undergraduates. 

47.This highly admirable university system helps the United States compensate for its relatively poor public high school system, by attracting many of the world’s top students and faculty and even by quickly training up American youths who have had relatively poor secondary schooling. Many of the non-Americans who do study in the United States ultimately become US residents or citizens, positioning themselves to make vital contributions to US research and development (Joffe).  Today American engineering schools attract students from all over the world and many of these foreign students rapidly enter the US job market. As long as US immigration standards remain open, this will partly compensate for what seems to be an inadequate US high school system. Of course, education reform is perennially on the political agenda in the United States but public education is a State and local issue; the federal government’s own leverage here is therefore limited.

48.In other Western countries, the problem is the reverse. Finland, Canada, Estonia and the Netherlands, for example, score very high in the Pisa rankings of high school student achievement in science; yet, at the level of universities there are few institutions in Europe to rival some of the great universities for science in the United States like MIT, Cal Tech, Berkeley and Stanford - all of which educate many Europeans at the graduate level. There is growing concern in European circles about this situation and calls for action are mounting. One problem in this regard, however, is that the American model for financing universities is fundamentally at odds with the European tradition, and any change is likely to be politically sensitive and glacial.

49.All of this might seem remote to the realm of security and power, but in many ways, it is fundamental. In ageing societies, ensuring productivity growth is obviously key to maintaining living standards, political stability and ultimately national power. Tomorrow’s youth will support a greater number of non-working people than is the case today, and so productivity advances, many of which can be achieved through education, will be essential over the coming decades. For Europe, improvements in the existing university system or systems will be imperative. The United States will need to upgrade a relatively poor public high school system, which is not meeting its requirements for an educated and literate work force and which fares poorly in international comparisons.  According to the recent OECD PISA studies, for example, US high school students ranked 25th out of 57 countries surveyed in terms of scientific literacy - a position that would suggest the United States will have difficulties maintaining its technological edge even with the immigration of thousands of talented non-American students who come to study and work in the United States (OECD). That technological edge is not only vital to America’s economic future, but is also central to its military edge.


V. DEFENCE BUDGETS

50.General defence budget trends obviously reveal an interesting and important story about global power relations.  Although many countries have cut defence spending because of the worst global recession since the Great Depression, several of the largest defence spenders initially continued to increase defence outlays in the first year of the crisis. War in Iraq and in Afghanistan was a key factor in driving some NATO government defence outlays. Yet, this is now changing, and a number of governments are moving to slash defence spending. The German government, for example, has announced plans to cut 8.3 billion euros from the defence budget by 2014. Similarly, the new British government has suggested that defence spending will fall by 10-20% over the next five years, although the details will not be clarified until the publication of a defence review in late 2010. Spain has cut defence spending by 9% in 2010, Italy will reduce defence outlays by 10% in 2011 and France intends to freeze the defence budget. Orders for the Typhoon - the British, German, Italian and Spanish fighter aircraft - are very likely to fall in this atmosphere (“Defence Spending in a time of austerity”).

51.The US Department of Defense is also working to muster large savings in i, , ts budgets without sacrificing capabilities and has recently announced cuts in a range of programmes. Secretary of Defense Robert Gates has said that the production of the F-22 will stop in 2010 - a decision that will leave that particular fighter fleet at 187 as opposed to the 750 originally envisioned. The rising cost of the F-35 Joint Strike Fighter will likely limit the number ultimately purchased on both sides of the Atlantic (“Defence Spending in a time of austerity”). The US military will also begin to pare back the number of generals and cut commands judged to be nonessential.  Like its European allies, the United States will have to start thinking smarter about how it spends its defence dollars. A recent study by McKinsey consultancy group, for example, suggested that US armed forces are among the least efficient in the world. Some of this is inevitable given their global responsibilities, but there is clearly room for improvement. Defense Secretary Gates has also noted that health care costs alone are “eating the Defense Department alive” (“Defense spending in a time of Austerity”).

52.The economic crisis is also having more subtle but potentially more strategically consequential effects on public attitudes. Public impatience with military operations has become palpable at a time when the recession is focusing public and political attention upon pressing domestic needs.  With unemployment hovering around 10%, US leaders are under pressure to create jobs while coping with mounting deficits. Yet, most Americans continue to recognise that American power is essential to building a more secure international order, which is very much in accordance with US interests. The Obama Administration’s National Security Strategy says right up front, “we will maintain the military superiority that has secured our country and underpinned global security for decades”. At nearly US$700 billion a year, American defence spending alone today accounts for half of the world’s total. When the overall fiscal and economic situation in the United States is taken into consideration, as well as rising public concerns about the fiscal situation, however, it does not seem likely that such spending levels can be sustained over the long term. If the United States is to maintain its military preponderance, it will have to find ways to do so in a less costly fashion.

53.Although the US is by far the world’s greatest defence spender, as a percentage of GDP, US military spending has essentially been falling since the 1960s (when, because of the Vietnam War, defence spending rose to 10.7% of GDP). That figure fell to roughly 5% of GDP in the 1970s and, despite a much heralded "defence build-up" in the 1980s, rose to only 5.8% over that decade. With the end of the Cold War, US defence spending again dropped sharply in the 1990s to 4.5% of GDP. Since 9/11, US defence spending has increased roughly 60%, but economic growth until the current global recession set in, helped the economy shoulder the burden.

54.Throughout the Alliance highly expensive defence platforms are already being put on the chopping block and order books for major systems are shrinking fast.  President Obama and Secretary of Defense Gates have also been openly discussing the need to match American foreign and security policy goals and tactics with the means at hand.  The diplomatic tone in Washington has discernibly embraced at least the potential for engagement with rivals, even though more military forces have been deployed in Afghanistan. Mr Obama has enlisted the support of other States and international organizations in these and other endeavours, both out of a spirit of multilateralism and a sense of realism about the finite nature of power, the limited resources available to muster power and the force multiplying potential of international cooperation. The real challenge though, may lie on the defence procurement side of multilateralism where decades of political rhetoric supporting the notion of a genuine transatlantic defence market did little to break down the barriers to that end. More efforts are also going to be needed to employ off-the-shelf technology rather than develop unique technological solutions for already highly expensive advanced military platforms.

55.Although Chinese defence spending pales in comparison with US spending, the authorities there have nonetheless embarked on a massive and generally opaque rearmament campaign aiming, in part, at building a blue-water navy that might someday challenge US maritime power in the Pacific.  India is doing the same, both because of its growing maritime interests and to counter China’s build-up. Russian leaders have vowed to use energy revenues to rebuild their own military. These trends could spark increased tensions, rivalries and counterbalancing moves (Burrows). There are concerns in Asia that China’s naval build-up is designed expressly to challenge America’s military preponderance in the Eastern Pacific. Recent US-Korean naval exercises have been greeted with sharp protest in Beijing. This could be a harbinger of future tensions.

56.Globally, defence spending is rising fastest in the Middle East due to the unique confluence of compelling security challenges and oil riches that need to be defended there. The region with the lowest defence spending growth is Western Europe, which continues to harvest the fruits of the Cold War’s end, but which has also been slow to adapt national militaries to the changing nature of threat, much of which lies beyond its horizons.  European governments now face the challenge of restoring fiscal stability through increased taxation and/or reduced government spending.  In ageing countries, protecting high priority areas of spending such as health care and pension support could make it ever more difficult politically to defend military spending.


57.The United States will very likely remain the world’s predominant power for some time to come, and its network of alliances will continue to constitute a central feature of its strategic posture. However, there are critical trends that suggest that the gap between it and other powers will narrow. For example, asymmetrical warfare strategies have eroded some of the advantages enjoyed by large and advanced militaries, as has been evident in Afghanistan.  Small weapons proliferation, terrorism, cyberassaults and other asymmetrical measures pose real long-term challenges that could limit the suasion power and leverage of US and NATO forces as traditionally arrayed. Russia, for example, launched cyberattacks on Estonia in 2007, Georgia in 2008 and Kyrgyzstan in 2009 - acts that could herald new approaches to warfare (Krepinevich). Naturally, if resources for Western militaries grow scarcer, then meeting these kinds of challenges could become even more difficult. In all likelihood, US and European militaries will need to learn to work with fewer resources even in an era of potentially greater risk. This will require far more intelligent approaches to defence spending including focusing resources on essential capabilities, cutting programmes of questionable strategic value, encouraging greater defence industrial and operational co-operation, and more open defence trade.

58.Finally, we must recognise that military operations are the last option in a chain of responses to serious security challenges.  Diplomacy in most cases should be sufficient to prevent dangerous situations from becoming matters that can only be solved through costly and often politically blunt military deployment.  It is also important to look at strategic vulnerabilities in the broadest manner.  For example, helping States on the verge of failing through an array of assistance programmes can pre-empt the kind of developments that might eventually make a military intervention essential. Of course, this requires vision and leadership.  Democratic leaders must constantly explain the reasons for such engagement, making clear that assistance brings with a welter of security benefits.  It is important for our governments to keep this mind as they assess their diplomatic and aid budgets. Development assistance is not only a humanitarian endeavour, it can also be a vital and cost-effective means to cope with critical security challenges and must accordingly be seen and defended as, part of the security policy mix.


VI. THE POTENTIAL FOR A CO-OPERATIVE INTERNATIONAL ORDER: ALTERNATIVE SOURCES OF INFLUENCE

59.It goes without saying that some of the emerging security challenges can and should be managed through non-military means. War is generally a last and unwelcome choice in the basket of policy options. Recent history reveals how costly military operations can be even when one side enjoys a clear preponderance of power and now outcomes almost invariably diverge from intentions. Such considerations may increasingly shape Western approaches to momentous international challenges (Deudney and Ikenberry).

60.Anne-Marie Slaughter, a noted Princeton professor, has suggested that new conceptions of power and leverage are needed not only to understand where the world is moving to, but also to explain why the United States and its Atlantic allies may continue to enjoy important advantages. Western openness to innovation and a capacity to adapt to new technologies will be a fundamental element of global influence: “(…) the issue is no longer relative power but the centrality in an increasingly dense global web (…)”. “In this world, the State with the most connections will be the central player, able to set the global agenda and unlock innovation and sustainable growth.” “The 21st century”, she writes, “looks increasingly like another American century - although it will likely be a century of the Americas rather than just America”. For Slaughter, as well as for the British strategist Lawrence Freedman, the Atlantic Alliance and the values and ideas that animate it offer critical advantages: the Atlantic world is more stable, economically diversified, networked and innovative than those in Asia. These traits will be rewarded in the emerging globally structured, networkcentric economy (Slaughter).

61.Freedman writes that unlike most previous great powers, American influence has been premised on a broad and voluntary alliance system primarily among democracies freely associating with hegemony.  The US has effectively served its own interests and those of its allies, and has created a global demand for the benefits it provides (Joffe). The central ideas of this Alliance are democratic and thus both flexible and potentially universal, insofar as democracy continues to have a broad appeal even in those places where authorities treat it as a threat. The attractive power of these notions should not be discounted in any broad assessment of the emerging balance of power, particularly as democratic ideals are, at least potentially, “inherently subversive to alternative ideological forms” (Freedman). When authoritarians dismiss democratic ideals as antithetical, for example, to Asian or Islamic values and traditions, they are often expressing a nervousness rooted in recognition of the power of democratic ideals even in their own societies.

62.In fact, one of the most important sources of Western hope for the future is that its own democratic order also promises robust flexibility. Western countries today confront a daunting range of economic, demographic and strategic challenges which, if understood in static terms, could seem to some cultural pessimists to spell eventual doom for the West. Promulgating democratic values certainly becomes more challenging in a period of economic downturn and general pessimism. Public demands on government rise just as government’s capacity to provide public goods declines. Economic crisis can and has broken democracies and therefore one should never be too sanguine about the political dangers of a downturn.  But democracy also encourages adjustment to new realities and has a rather strong track record in this regard. In other words, the societies of the Alliance have built-in political mechanisms to respond to the daunting economic and strategic challenges they confront. Of course, this demands transparency and hard work by leaders to explain the hard choices governments confront in periods of economic tribulation. 

63.Such robust mechanisms for dialogue are not available in authoritarian societies that might potentially challenge the West over the coming decades. These societies are inherently less flexible. Internal brittleness and mistrust of their own people could well inhibit their ambitions.  Countries like China and Russia lack the democratic buffers that help governments chart a course out of crisis. The potential for public hostility in a downturn could be more severe in these countries, simply because there are fewer outlets for political expression. Oftentimes authoritarianism tends to appear stronger than it actually is, and this can lead to self-doubt in more vulnerable democracies. Some analysts wonder how China might weather a sharp downturn in economic growth or Russia or Iran a sustained fall in the price of energy. The challenges would not simply be economic in nature (Burrows). The Chinese economy today is overly dependent on exports, which generate roughly two-fifths of its annual GDP.  This leaves it vulnerable to global economic downturns, which could become a source of civil disturbances, particularly in those regions where Communist Party rule is most unpopular and most oppressive (Joffe). It is precisely these kinds of dynamics that might dissuade some from arguing that we stand on the threshold of a Chinese century.

64.This hardly negates the notion that the relative power and influence of the West has slipped in recent decades. As a result, the concerns and priorities of these emerging countries will have more influence than in the past. Many see this change as a potential source of friction and rivalry. It is often suggested that when new powers rise, conflict with older powers becomes inevitable. But this is hardly written in stone, and perhaps it would be better to suggest that friction rather than conflict is inevitable. The world’s emerging powers are rising through a system premised on Western values.  In many respects, these new powers hold a vested interest in the status quo. The emerging order may thus prove to be a highly interdependent one, which could well encourage States to seek win-win solutions to common problems rather than zero-sum solutions which, in any case, will be ever more difficult to achieve. This dynamic could well condition foreign and defence policies for decades to come, particularly as so many countries confront domestic economic, social and political difficulties while remaining globally interdependent.  Lawrence Freedman has even suggested that “shared weakness” could become a source of international tranquillity and cooperation.


VII. CONCLUSIONS

65.Any coherent grand strategy must effectively balance a State’s economic resource with its foreign policy commitments and sustain that balance over time. At the same time, economic logic must inform strategic choice.  Western governments will, of course, remain conscious of the risk of military overstretch. If there is a perception that current military spending must increase to maintain costly military commitments, and if those outlays are perceived to be crowding out productive investment needed for future growth, political pressures to scale back those commitments will invariably rise, particularly if the strategic rationale for the commitment is unclear. Indeed, if vital long-term investments are consistently foregone to maintain current strategic commitments, the economic outlook for the longer term will turn negative. Finding a balance between present commitments, future needs and available resources is essential, but striking that balance will prove difficult.

66.Along these lines, the United States will need to limit its colossal external deficits. The challenge, of course, lies in making targeted fiscal adjustments to facilitate this change; invariably, this will have to involve some combination of spending reductions and tax increases (Bergsten). But the United States is hardly alone in confronting long-term fiscal challenges. Many allied countries are going to need to put their public budgets on more sturdy foundations. This is all the more essential given how quickly many NATO countries are ageing. More serious efforts are needed now to contain long-term health care costs and reform social security and pension systems so that they are financially sustainable. In most countries, this will involve raising retirement ages and basing pensions on price changes rather final wages.

67.The international monetary order will have to adjust to the changing economic balance of power and the dangerous instability of the current order. In the future, the euro and the renminbi are likely to play greater roles in reserve holdings, bond issuances and commercial activity. The renminbi will first have to become a fully convertible currency before it assumes this role.  The euro has already become a more globally consequential currency, and this could eventually reduce the demand for dollar holdings - a situation that will further pressure American officials to reduce chronic budget and balance of payments deficits. The diversification of foreign exchange holdings by central banks would invariably reduce the leeway the post-war monetary order has afforded the United States to live beyond its means. As long as the dollar remains the indispensable international currency, however, the constant demand for dollars will continue to trigger large capital inflows into the United States, pushing up the dollar’s value against other key currencies like the renminbi and facilitating unhealthy trade deficits, mounting debt and asset bubbles. The dangers of the status quo have been made very apparent during the current global crisis, which is rooted in this currency misalignment, chronic deficits and an explosion of credit in the United States. Of course, the adjustment must work two ways, and China, for example, will need to ease away from oversaving and from its export at all costs orientation (Bergsten).

68.As this paper has suggested, the long-term economic challenges to the West are not simply monetary in nature. Assuming that the world will become ever more tightly networked by advanced communication technologies, power and prosperity will increasingly hinge on the capacity of societies to master technology, to innovate and to use networks to acquire new sources of leverage and influence. Moving towards a carbon-free energy economy is essential not only for climatic reasons but also to lower Western dependence on unstable regions. This would also free up government time and energy to focus more on developments in the more consequential Asian region.  National budgets will have to be restructured to ensure that States are moving in this direction. Education systems at the high school, university and graduate levels must be revamped, investment in science and technology must be increased, adult education systems introduced to facilitate worker mobility (not necessarily in geographical but certainly in technological terms), and new systems developed to incorporate innovation into national economic life and into government itself.

69.New approaches to allied burden-sharing will also be essential. Given the size of Europe’s economy and its aspirations for global leadership, the current disparity in military spending and capability with the United States cannot be sustained politically, nor will it foster security. Europe, of course, also confronts serious fiscal limits and defence budgets today are being cut. But there is a great deal more that can be done to increase capabilities simply by deepening co-operation and defence integration within Europe. For its part, the US military confronts an array of global challenges that it cannot manage alone - at least in a manner congruent with long-term fiscal sustainability. It needs its allies to take up a greater share of the burden and the only way this is going to come about is through deeper European defence co-operation. In some cases, Washington will also likely need to look to potential rivals to contribute to global security in those areas where such co-operation is possible. China, for example, could play a greater role in antipiracy efforts, particularly as piracy poses an enormous threat to its own trading and energy interests. The United States will also look to Russia and China as partners in nuclear nonproliferation efforts (Pape), in neutralising terrorism, helping to secure Afghanistan and fighting the global narcotics trade. Doing so can help build habits of co-operation that lower tensions and foster shared approaches to global challenges.

70.NATO countries will thus have to spend ever more precious defence dollars and euros in a smarter and more efficient fashion. In the words of defence strategist Andrew Krepinevich, “Strategy is what you need when you don’t have any more money”. (“Defence spending in a time of austerity”). Member countries must move more quickly to ensure that their militaries are structured for fighting future rather than past conflicts and that they are more interoperable and integrated.  We are entering an era of greater scarcity, and defence budgets will not be spared the axe. This makes it all the more imperative that everyone from defence planners to parliamentarians think smarter and globally rather than reactively and parochially. If cuts are to be made, they ought to be made in areas which do little to improve operational effectiveness, and this process must be co-ordinated within the Alliance, possibly through NATO’s defence planning staff. National militaries should not be purchasing capabilities that they do not need and co-operation among militaries should be deepened which would allow some countries to specialise in certain capabilities.  France and the United Kingdom, for example, have been exploring how to better coordinate the management of highly expensive aircraft carrier programmes (Martin). Enacting such changes is never easy given the power of vested interests. Yet, foregoing certain capabilities and entrusting these to allies for the sake of greater efficiency is hard to defend politically. Indeed, history and national sovereignty concerns often militate against efficiency. That said, the luxury of ill-conceived, costly procurement that shuts out efficient producers is no longer affordable.  Ultimately strategic ambition may have to adjust as well.

71.There will also be a continued need to engage rising great powers even though some will remain autocratic and, at times, highly unco-operative. The more these countries are woven into the fabric of the global order, however, the more pressures and incentives they will face to adopt the norms of that order. This hardly undermines the ongoing rationale for preserving the deepest ties among the democratic community of nations. However, this does not mean that those countries that fall short of those standards should automatically be excluded from the conversation. Global frameworks for problem-solving are going to be essential in a world where economic power is more broadly shared. The important point is that a sense of ownership is cultivated even among States that like to cast themselves as outsiders. Obviously, this does not rule out the potential for tension and even conflict as is evident in the current standoff with Iran and North Korea over their respective nuclear weapons programmes. When possible, however, engagement can be an effective means to build peace and security. It is the best way to communicate the benefits of responsible engagement and the costs of playing a destabilising role in the international system.

72.Innovative thinking and decisive policies will be essential to maintaining prosperity and exercising influence in the emerging global order. Many of the assumptions, policies and institutional structures conceived during the Cold War must be reviewed in light of a fundamentally different international landscape and particularly the declining economic weight of the West in the global economy.  The countries of NATO are all obliged to get their fiscal houses in order and to address head-on the structural challenges they each confront. Pursuing old policies out of sheer inertia represents the surest path to rapid decline. A critical manifestation of social, economic and political dynamism is, of course, the capacity to adapt. The challenges to which NATO countries must adapt lie on all fronts. They are social, demographic, educational, political, military and economic in nature. Moreover, they are deeply interlinked.  A society’s capacity to educate its young people, for example, will be an essential determinant of its long-term economic prospects, the health of its democracy, its global leverage and military power, and will also likely be a critical factor in that society’s ability to weather coming demographic and climatic challenges. The first step in meeting such comprehensive and daunting challenges lies in recognising these vital linkages and developing comprehensive approaches to them.  Needless to say, this is far easier said than done. 

73.NATO and its member governments must work out common approaches to a range of international challenges that have clear security implications. These include climate change, overpopulation, food and water security, and meeting current and future energy needs.  But in many of these areas, NATO obviously will not be the lead organisation for addressing the challenges, even if it could have responsibilities to deal with the direct security consequences. That means that in this ever more integrated world, NATO itself will increasingly have to work with other international organisations and bodies that are traditionally non-military in nature. This will lessen the burden on our militaries and, at heart, is a more effective and less costly way to build a more stable global order. Building security in today’s world requires partnerships among disparate organisations like NATO, the EU, the UN and its myriad agencies, the World Food Programme, the World Bank, Interpol, the Red Cross, national development agencies and NGOs and other civil society organisations. The Alliance needs to do more to cultivate these links and to develop the modalities of co-operation that will be essential to building greater comprehensive security in the future. This notion should be fully embraced in NATO’s new Strategic Concept.

74.Finally, we must do all in our power to ensure that we stay true to the values that animate this alliance. The rule of law, due process, freedom of expression and religion, open commercial relations, free markets, social solidarity and tolerance are not only ideals that we seek to defend, they are also our greatest source of strength. We should not shirk from adhering to these and indeed from promulgating them in a rapidly changing world. These are all core reasons for sustaining this vital transatlantic alliance. 

 

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