Thoughts from a Renaissance Man The

Thoughts from a Renaissance man Economics & Strategy 6 September 2016 Charles Robertson Thoughts from a Renaissance man +44 (207) 005-7835 [email protected] The revolutionary nature of growth (2016) Mobile +44 7747 118 756 Big data allows us to quantify political risk and we must do so, in order to @RenCapMan avoid pointless attempted coups and excessive political repression. It may also be useful for investors. Vikram Lopez +44 (207) 005-7974 [email protected] In any given year, there is an 86-100% chance of no change in political regime type The attempted coup in Turkey in July 2016 resulted in a reported death toll of over 240 people. This is a tragedy that could have been avoided if the perpetrators had recognised that the coup was doomed to fail – please see our report The revolutionary nature of growth, published 22 June 2011. With a broader 7,776 data points, we reiterate and update our conclusions from that report. The underlying thesis – using political ratings by Polity IV and per capita GDP (2011 dollars) from the Penn tables – is that as countries get richer, they all democratise unless they export a lot of oil per capita or are called Singapore. Here we examine all emerging, frontier and beyond-frontier countries within CLICK HERE TO SEE THE VIDEO that theme to highlight the political risks looming on the horizon. Our most important conclusion is that in any given year, our data show there is an 86-100% chance of no change in political regime type. But democratisation is coming: from China to Morocco The Polity IV database provides 200 years of political rankings, from the ‘full democracy’ of modern Germany at +10 to ‘democracy’ at +6 to +9, autocracy at -6 to -10, with anocracies that have characteristics of both, which can be open anocracies (0 to +5) or closed (-1 to -5). The data tell us that we can confidently assume countries with a negative score will shift to a positive score as they get richer. While it could happen earlier, we expect autocratic China to change in the 2020s, and autocratic Vietnam to follow. The Taiwanese or Korean examples suggest this will be a voluntary and relatively peaceful ceding of monopoly power by the ruling parties. Meanwhile, the ‘closed anocracies’ of Egypt and Thailand have a remarkably high 12% annual chance of becoming more democratic, and Morocco and Jordan have a 9% chance of doing the same. The greatest two-way risk is in low income countries Nigeria regained ‘democracy’ in 2015 and has a 96% chance of retaining this rating each year. But lower income countries from Zimbabwe to Bangladesh carry a 1 in 7 risk of political change, and are more likely to shift towards autocracy than democracy. Russia, Turkey, Malaysia - the middle income trap and a new democratisation wave We find that autocracies are not significantly better than democracies at delivering growth in low income economies. But our data imply that democracy might be essential if a country is to escape the middle income trap. Russia, Turkey and Malaysia retain positive Polity IV ratings, but all lost ‘democracy’ in the past decade and became ‘open anocracies’. This has never happened before at a $15-25k per capita GDP level (2011 PPP). The world has also never seen an open anocracy with per capita GDP above $25k, which suggests to us that these countries will either regain ‘democracy’ and get richer, or stagnate economically and politically, or become the world’s first rich open anocracies. Malaysia’s 2018 elections could see it regain ‘democracy’. For Turkey and Russia, the data imply a change of president might be required to avoid stagnation over the medium term. Curiously, when oil prices fell in 1985, we saw a democratisation wave engulf Mexico, the USSR, Iran and Algeria in 1988-1990. We wonder if the 2014-2015 oil price fall may provoke similar democratisation in Russia, Iran and Venezuela in 2018-2020. The data sample is too small to give us high confidence in this scenario. To conclude, in any given year, we think political change is unlikely. But when the risk of change can be as high as 1 in 7, we think investors should be prepared for the unlikely to happen. © 2016 Renaissance Securities (Cyprus) Limited. All rights reserved. Regulated by the Cyprus Securities and Exchange Commission (Licence No: KEPEY 053/04). Hyperlinks to important information accessible at www.rencap.com: Disclosures and Privacy Policy, Terms & Conditions, Disclaimer. Renaissance Capital 6 September 2016 Thoughts from a Renaissance man Friday 15 July, was meant to include a relaxed evening, eating flame-grilled steak, drinking Malbec and melting marshmallows around a campfire, followed by the discomfort of sleeping in a tent. However, a faction of the Turkish army that had never read our 2011 report, The revolutionary nature of growth, mistakenly thought it could overthrow the Turkish government. As we read the news at around 9pm, we instantly tweeted that “Turkey is on the cusp of having an immortal democracy so this apparent coup is extremely unlikely to succeed”. This tweet was arguably too generous to Turkey by calling it an immortal democracy, and too generous to the plotters by suggesting there was any chance of the coup succeeding. A few minutes later, before anyone had heard from President Recep Tayyip Erdogan, we were suggesting that the most concerning consequence of this coup attempt was that he might end up with even more power. This is not a ‘we told you so’ piece. What we think we proved in 2011 was that data can predict some political changes – specifically that coups do not succeed in countries with Turkish wealth levels. We can no more take the credit for this, than a scientist can take the credit for suggesting that the sun rises each day. Yet these facts are sadly still not understood. More than 250 died in Turkey because of a coup that all of history tells us could not succeed. Since 15 July, President Erdogan has purged more than 60,000 people. This is 10x less than the 600,000 arrested after the 1980 military coup1, but looks like an over-reaction to a coup that was doomed to fail. US investors told us in mid-July that they think Erdogan is overplaying his hand. Meanwhile many political commentators have sought to explain what happened on 15-16 July with reference to social media, but too few have stated the basic truth that “Turkey was too rich for the coup to succeed”. What we think is most important is that the coup attempt proves how bad we all are at understanding when societal change has occurred. Some in the Turkish military presumably thought the coup could succeed, because coups have so often succeeded in Turkey. They failed to recognise that Turkey in 2016 has changed fundamentally from the country it used to be. We see the same misunderstanding of change in Russia and China. Some believe that President Vladimir Putin holds as much power as he does in Russia, because Russians have always had autocratic leaders and always will do. China has never been a democracy so some (such as the rulers in Beijing) suggest that China is not suited to democracy. Yet similar arguments could have been made (and probably were) in the run up to the decision to let Swiss women have a vote in 1971 – yet change came, women got the vote and Switzerland got richer. It does take time, but change does come and is inevitable for almost all of us. Given this, we think it is worth re-visiting The revolutionary nature of growth. We can also do better than we did in 2011, because: 1) We can capture the Arab spring, as we can now extend the 1950-2010 political dataset to 2014. We are also using 2011 PPP dollars, which is replacing the former 2005 PPP benchmark. As a result, the data are more accessible to us, and to you, 2) We wound up a lot of people by simplistically calling Russia and Turkey democracies. We will be more nuanced in this piece, and also look at the erosion of democracy, a process that has been under way in key markets such as Russia and Turkey in recent years, and where they go next. 1 1980 data courtesy of this piece. 2 Renaissance Capital 6 September 2016 Thoughts from a Renaissance man 3) Lastly, we can update our forecasts. In 2011 we pointed out that if China grew at 2005-2007 rates of growth, it would be a democracy in 2017. But China has not grown that fast, so it’s date with democracy has changed. ‘All’ countries become democracies We encourage you to re-read our original report, where we discussed Abraham Maslow’s hierarchy of needs, and how tax-payers will eventually demand a say in how their taxes are spent. At low income levels, the priority is food and shelter, but the need for Hegelian recognition becomes increasingly important after basic needs are met. Francis Fukuyama made this point in The end of history and the last man with the core thesis that all societies will end up as capitalist democracies. We pointed out in 2011, and reiterate now, that neither Islamic theocracy nor one-party communism are proving to be alternative systems with universal appeal. However, as we saw in the 1930s after the 1929 stock market crash, and in the 1970s after the 1973 crash, and now again after the 2008 crash, the road to democracy is not a straight one.

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