Markets Are Entering A Wartime Economy | Cem Karsan

Key Concepts

• Wartime Economy: A shift in economic priorities towards strategic asset acquisition, delocalization, and preparation for global conflict, diverging from traditional economic models.
• Populism & Protectionism: The rise of political movements prioritizing domestic interests, leading to protectionist policies and a re-evaluation of global trade.
• Secular Trend: A long-term shift towards strategic assets (precious metals, hard assets) and away from traditional investments, driven by geopolitical instability and inflation.
• K-Shaped Economy: A widening disparity in economic outcomes, with the wealthy benefiting from market gains while the middle and lower classes struggle.
• Fiscal Dominance: A situation where government spending and policy heavily influence economic outcomes, potentially overriding monetary policy.
• Bifurcation of the World Economy: The division of the global economy into competing blocs, primarily China/allies versus the West/allies.
• Authoritarianism as a Disruptor: The potential for authoritarian policies to circumvent populist trends and alter the expected economic trajectory.
• Liquidity Dynamics: The critical role of liquidity, particularly in bond markets and refinancing cycles, as a key indicator of economic stress.

The Shifting Global Landscape & A Wartime Economy

The discussion centers around the assertion that the current global economic situation is not a normal cycle, but rather a “wartime economy.” This isn’t necessarily a traditional military conflict, but a multifaceted struggle for strategic assets, economic dominance, and geopolitical influence. Jim Carson emphasizes that failing to recognize this paradigm shift is a critical mistake. He argues this is a preparation for escalating global conflict – economic, military, and strategically asset-focused – and is likely to intensify, not de-escalate. He warns that continuing on the current path could lead to a transition from a republic to an empire, historically a precursor to decline.

Reviewing the Past Year & Unexpected Developments

Carson reflects on the past year, acknowledging that while he anticipated a “bumpy ride” in 2024, the extent of certain developments surprised him. He accurately predicted a February market decline (approximately 25% versus his initial expectation of 15%), followed by a rally that exceeded expectations. He attributes this rally to concerted efforts by the administration and “powers that be” to manage liquidity, specifically by manipulating the yield curve and absorbing reverse repo liquidity. Institutional investors moved from the zero percentile to the 40th/50th percentile in June, indicating forced repositioning.

Despite this intervention, Carson notes a continued “step away from the markets” by investors, evidenced by increased interest in precious metals and long-dated calls. This aligns with his long-held thesis of a shift towards strategic assets. He was surprised by the scale of the recent fiscal spending (“build big beautiful bill”), acknowledging its short-term positive impact on markets but predicting a backlash (“pitchforks on his lawn”) within a year. Initial exuberance, even from those previously critical of Trump, was quickly tempered by the realization that this approach is unsustainable.

Populism, Fiscal Policy & the K-Shaped Economy

A central argument is the inextricable link between fiscal spending, global conflict, and populism. Carson draws parallels to the 1960s and 70s, highlighting how fiscal programs (like the Great Society) and military conflicts (Vietnam War) coincided with inflationary pressures. He argues that populism inherently leads to protectionism, disrupting established global trade relationships. The current situation is characterized by a K-shaped economy, where wealth concentrates at the top while the middle and lower classes face increasing economic hardship. While initial fiscal stimulus offered some improvement, the return to supply-side economics has exacerbated this disparity.

He emphasizes that the current political landscape is driven by a generational shift, with millennials and younger generations demanding a fairer economic system. This necessitates a re-evaluation of economic priorities and a potential move towards policies that prioritize median outcomes over mean outcomes. He predicts that politicians attempting to resist this trend will face increasing political pressure.

Geopolitical Realignment & Strategic Competition

Carson frames the current geopolitical situation as a “bifurcation of the world economy” – a division between China and its allies versus the West and its allies. This competition manifests in various forms, including strategic asset acquisition (Venezuela, Iran) and military posturing. He views the Greenland situation as a strategic maneuver by the US to pressure Europe into increasing military spending and preparing for a potential conflict. He suggests this is part of a broader effort to build up military presence globally, similar to initiatives in Japan.

He posits that the US is strategically allowing China to focus on Taiwan, while simultaneously securing resources and influence elsewhere (Venezuela). This is framed as a pragmatic, albeit cynical, approach to managing a complex geopolitical landscape. He believes the US is essentially playing a game of “risk,” prioritizing the consolidation of its own sphere of influence.

The Role of the Federal Reserve & Liquidity

The discussion highlights a diminished role for the Federal Reserve in controlling economic outcomes. Carson argues that the Fed’s power is constrained by the political forces driving fiscal policy and the structural inflationary pressures resulting from populism. He draws on the experiences of Arthur Burns in the 1970s, who similarly felt powerless to address the economic challenges of his time.

He emphasizes the importance of liquidity, particularly in the bond market, as a key indicator of economic stress. The upcoming wave of bond refinancing (50% of all debt rolling over in the next three years) will create significant liquidity challenges, potentially exacerbating inflationary pressures. He identifies the long end of the curve as the “ultimate bully in the room,” and notes the administration’s attempts to manipulate it.

The Threat of Authoritarianism & Future Outlook

Carson warns that the only factor that could disrupt the larger secular trend towards populism and strategic asset accumulation is a move towards authoritarianism. He believes this is a potential lever that could be deployed to circumvent the political will of the masses. He anticipates increased volatility and structural unrest as a result.

He predicts that the current trajectory will continue for at least another decade, characterized by ongoing geopolitical competition, economic instability, and a shift towards a “wartime economy.” He cautions that the US is slipping down a dangerous path, potentially leading to a decline similar to that of the Roman Empire.

Data & Statistics Mentioned

• February Market Decline (2024): Actual decline of 25% versus predicted 15%.
• Institutional Investor Positioning: Shift from 0th percentile to 40th/50th percentile in June.
• 1962-1982 Presidential Years: Average market gains of 21.5%.
• 1962-1982 Midterm Years: Average market decline, with a maximum drawdown of 45%.
• 2022 Midterm Year: Market decline of 18.5% with a 25% drawdown.
• Bond Refinancing: 50% of all debt will be refinanced in the next three years.

Actionable Insights

• Diversify into Strategic Assets: Focus on precious metals and long-dated calls as a hedge against geopolitical instability and inflation.
• Monitor Liquidity Dynamics: Pay close attention to bond yields, refinancing cycles, and institutional investor flows.
• Recognize the “Wartime Economy” Paradigm: Adjust investment strategies to reflect the new reality of strategic competition and economic disruption.
• Be Prepared for Volatility: Expect increased market volatility and structural unrest as geopolitical tensions escalate.
• Understand the Political Landscape: Recognize the influence of populism and the potential for authoritarian policies to disrupt economic trends.

Resources Mentioned

• Kai Wealth: https://kaiwealth.com/
• Kai Volatility: https://kyvolatility.com/
• Jim Carson (X/Twitter): @jam_croissant
• Grayscale: https://grayscale.com/