Regime Changed

Thoughts on how Brexit made and unmade Starmer, the price of Trump's Middle East surrender, Iran's not-so-revolutionary new leadership, and why the EU chickened out of a trade war

Photo by Fatima Shahid on Unsplash

Here’s this week’s newsletter, coming to you from Athens where I will be for the next couple of days. Do get in touch if you would like to meet. If you find this post useful, please do consider becoming a paid subscriber as it’s the generous support of paying subscribers that keeps this going. At the least, you can show your appreciation by hitting the “like” button which helps with the algorithms and sharing it widely with anyone you think might be interested. I look forward as always to your comments and feedback.

• Starmer’s Demise: Brexited

• Trump’s Peace: Price of Surrender

• A New Iran? Regime change

• EU-China Trade: Dialogue of the Deaf

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1. Brexited

So we have it on the authority of Donald Trump — admittedly, far from the world’s most reliable source — that Sir Keir Starmer will resign as UK prime minister. That the US president should think it appropriate to announce Starmer’s decision before he has had a chance to announce it himself is not just a humiliation for Starmer, who went far out of his way to build a constructive relationship with Trump, but an insult to a close ally.

For the last few days, the Italian political and media class have been united in indignation at Trump’s gratuitous insults towards Georgia Meloni, who he accused of “begging” for a photo with him. One Italian newspaper today even splashed with a front page that roughly translates as “Trump is an asshole.” It would be nice to think that the British political and media class could show the same solidarity in defence of Starmer. It’s a mark of how in thrall much of it has become to MAGA money and attention that it almost certainly won’t.

Nonetheless, there is something fitting about the prospect of Starmer resigning on the eve of the 10th anniversary of the Brexit referendum. In becoming the sixth prime minister to leave office since the decision to quit the EU, he has added to the bathos of a moment that very few will be celebrating. Starmer is in some ways a product of Brexit, having made his name as Labour’s Brexit spokesperson and been catapulted into the leadership of a party hollowed out by Boris Johnson’s 2019 landslide, and his failure is partly a consequence of Brexit.

As Wealth of Nations has often noted, Brexit didn’t cause a crisis in the British state so much as reveal one. The country’s Thatcherite economic model had been badly broken by a combination of the Global Financial Crisis, which crippled the productivity and tax revenues of the City of London, and decades of underinvestment in the public realm as a result of a flawed privatisation settlement and a prioritisation of tax cuts. Brexit was not an answer to this crisis but hugely compounded it — triggering a massive supply-side shock in the form of new barriers to trade and the end of free movement while consuming the political bandwidth needed to address any of it.

To give Starmer his due, his government did recognise that Britain’s key challenges were on the supply side. Labour was elected above all to fix one urgent problem that had proved quite beyond the Tories: reforming the planning system to speed up the delivery of housing and infrastructure. The Starmer government also promised to seek a closer relationship with the EU, and Rachel Reeves tweaked the fiscal rules to allow more borrowing to invest — albeit in a way that, as Wealth of Nations argued at the time, was a disappointing halfway house that didn’t convince the bond markets.

The Westminster pundits will spend the coming days gleefully picking over Starmer’s manifest weaknesses as a politician. There’s no question that he lacked some core political skills, not least the ability to win a political argument even within his own party, leading to humiliations over welfare and defence spending. But his core problems were structural. The benefits of his supply reforms would take time to materialise. And in a forlorn attempt to appease a feral right-wing press that remained in thrall to the flawed Thatcherite model and to Brexit, Starmer boxed himself in with a series of red lines on tax and EU relations that put firm limits on the extent of any reform of the country’s economic model.

The case for removing Starmer is the need to erase those red lines. There is no way a British government can meet its defence spending commitments, undertake the investment needed to replace decades of run-down public assets, remove the moron premium on gilts, and deliver the European standards of public services that voters demand while continuing to levy US levels of personal taxation (see Pathological Problems). Similarly, as noted last week, Starmer’s EU reset has reached the limit of what is achievable under his red lines of no return to the single market, customs union or freedom of movement (see Stumbling Bloc).

Britain’s seventh prime minister since the Brexit referendum will need the courage to make the arguments for what is actually needed — and the political skills to win them. Without both, the eighth will be along before too long.

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2. Price of Surrender

Who knows whether the Memorandum of Understanding that Trump signed last week at Versailles — a location synonymous with one-sided peace deals — will lead to a durable Middle East settlement. As things stand, the Strait of Hormuz is reportedly closed once again, as Iran insists on the US delivering on point one of the 14-point plan: that the ceasefire extends to Lebanon, a condition that Israeli prime minister Benjamin Netanyahu is determined to frustrate.

But that did not stop the markets reacting as if Trump had delivered peace in our time. The Brent oil price fell below $80 a barrel, well below the peak of $118 in April, the S&P 500 and South Korea’s KOSPI both hit record highs, and US Treasury yields fell on expectations that lower energy prices would limit the inflation shock, reducing the need for interest rate hikes — though yields later rose following hawkish comments from new Fed chairman Kevin Warsh.

Nonetheless, one reason for the markets to have some confidence that the war may be over is that Trump has acknowledged the US can no longer afford to wage it. For the last three months, he has been engaged in a concerted effort to jawbone the market into keeping the oil price well below the doom-laden predictions at the start of the conflict that it might hit $200 a barrel.

His 39 predictions of imminent peace were accompanied by an unprecedented drawdown of America’s Strategic Petroleum Reserve. But as the president admitted last week, the SPR has just four weeks’ supply left at current rates. Without this support, a prolonged closure of Hormuz risked much higher oil prices and a global depression. If he had fought on, Trump said, the market “would go down at levels that nobody ever saw before, maybe except for 1929... The one President I did not want to be was the late, great Herbert Hoover.”

Disaster was also averted by a series of improvisations. China drew on its vast oil reserves, cutting its imports by three million barrels a day from February. Significant demand destruction, particularly in South East Asia — increased working from home, fuel rationing, cutbacks on air conditioning — contributed a further reduction of 700,000 barrels a day. And the diversion of Gulf oil via pipelines reduced the shortfall caused by the loss of the 20 million barrels a day that used to pass through Hormuz: Saudi Arabia, for example, has been sending 4 million bpd via pipeline to the Red Sea, up from 1 million bpd previously.

What happens to the oil price from here is an open question. In the short term, it will take time for flows through Hormuz to recover even if both sides lift their blockades, as mines will need to be cleared and new insurance contracts agreed. Longer term, much depends on how much of the demand destruction proves permanent. Adjusted for inflation, energy intensity - the amount of energy needed to produce a dollar of GDP - has fallen by about a third since 2000 in the US and Europe and by about 40% in China, according to World Bank data.

Meanwhile, the war is likely to have accelerated the transition away from oil, with many countries, particularly in South East Asia, accelerating their transition to renewables. Add in a potential substantial increase in oil supply if Trump lifts sanctions on Iranian crude and it’s no wonder that the International Energy Agency is already predicting a glut next year and some investors are betting on oil prices falling to $50 to $60 a barrel.

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3. Regime Change

One thing is certain: the Iran War will have long-term geopolitical consequences. Last week’s G7 summit offered a glimpse of what a chastened Trump might look like — he stayed for the duration, signed on to tough language on Russia, and agreed to new support for Ukraine. Whether this marks the start of a more constructive relationship with allies is another matter. Unlikely, I fear.

More significantly, Iran itself has clearly emerged stronger. That’s not just because, by not being defeated, it won. Nor because the 14-point MoU seems to deliver on all Tehran’s demands — sanctions relief, a reconstruction fund, no end to its nuclear programme, no explicit restriction on its ability to levy fees on Hormuz traffic at the end of the 60-day ceasefire — without obviously delivering on any of the core US demands. More importantly, as Narges Bajoghli and Vali Nasr argue in a fascinating piece in Foreign Affairs, the crucible of war has transformed Iran in unanticipated ways:

To survive and establish new strategic advantages, the Islamic Republic had to adapt and innovate, changing how it waged war, ran the state, and managed society. And it had to do so with unprecedented speed. Tehran is now confident in what it has achieved and determined to consolidate those gains at home and abroad. The war has given rise to a new Iran, one that will reshape the Middle East and influence the course of geopolitics for years to come.

In decapitating Iran’s leadership, it appears that Trump has in fact engineered a form of regime change - from the revolutionary generation to a younger cohort that Bajoghli and Nasr describe as “pragmatic, hardened nationalists” who treat Iran’s weaknesses as “problems to be solved” rather than truths too uncomfortable to acknowledge. Where their predecessors were ideological and insecure, these leaders exercise strategic patience and act decisively.

The shift is already manifesting inside Iran. As Bajoghli and Nasr document, state media now normalises images of women with and without the hijab side by side, frames Iranian identity as cultural rather than purely religious, and reaches toward the urban middle class and the youth who had most thoroughly rejected the Islamic Republic. Increasingly, the regime looks less like a theocracy and more like a right-wing nationalist authoritarian state.

Perhaps that is why Trump is so confident he can work with them.

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4. Dialogue of the Deaf

It should come as little surprise that EU leaders at their summit last week opted against confrontation with China over its trade practices. As discussed last week, there are no easy answers as to how Europeans should respond to the prospect of industrial annihilation by the Chinese juggernaut (see Steamroller Approaching). So the leaders settled for “dialogue” both among themselves and with Beijing.

This is almost certainly the right response, judging by a recent trade war simulation involving assorted economists and think-tankers attended by Alan Beattie from the Financial Times, in which participants playing the Commission tested out a strategy of confrontation, deploying the EU’s trade bazooka, the as yet unused anti-coercion instrument. But the EU’s ability to reach a common position was undercut by fears of retaliation from some member states, notably Germany, Spain and the Netherlands:

Even a watered-down version of the Commission proposal was met with a fierce response from the China participant, including threatening to cut off rare earths and reminding the Europeans of their pharmaceutical industry’s dependence on Chinese raw materials.

The China participant, it turned out, had not felt seriously threatened by anything the EU said and was confident Beijing could kick the can down the road again two months later. Though some participants insist the outcome was not so bleak, and that under some scenarios Beijing did agree to meaningful dialogue on its macro-economic imbalances, the broader lesson is clear enough. As I argued in my latest column for Kathimerini:

If America had to retreat from a trade war with China last year after Beijing blocked the export of rare earths, then what chance do Europeans have? Indeed, Europe’s chances of prevailing are further diminished by Trump’s decision to seek a truce with Beijing.

The reality is that European protectionism is unlikely to succeed in changing China’s or America’s policies, and risks causing Europe to fall even further behind. Rather than putting up trade barriers, Europe would do better to focus on removing barriers to trade and innovation in its own market, not least by developing a savings and investment union, deepening the single market in energy and easing the regulatory burden in tech.

It may be too late for Europe to avoid China shock 2.0, but a continent that can’t even agree on how to improve its competitiveness has only itself to blame.