Sent April 2022
Given that I am a financial nerd, when I use the above subject title, many will think I am talking about equity or bond markets rising or falling around the world. I am not. Others will perhaps think of the great human tragedy occurring in Ukraine at this moment in our human existence, where our hearts literally rise and fall with the stories of outstanding courage by the populace offset by the pain and angst we see inflicted indiscriminately on civilians and children. Again, I am not. Instead, what I want to focus on this month is a blend of the above as it relates to broad national-level macroeconomic trends that wars make painfully clear.
The Economic Effects Of Wars
To stay objective on a subject of great emotional gravity is not easy. However, always comporting myself to remain objective in my letters to you is my commitment to you and in this case, it is unusually instructive. On the circumstance of Russia invading Ukraine, a vast majority of people would consider it a “war” though Vladimir Putin continues to describe it as a “special operation.” However, my economic argument today is founded on “wars.” To that point herewith, when one country (nation-state) uses military force to voluntarily invade another country (nation-state) without the permission (consent) of the freely governed people, and one who simultaneously acts with the intent of installing leaders who are biased in favor of the invading country (called a “puppet government”), we have something called a war.
I’m going to stay out of the fray of dealing with the subject of “just wars” (or unjust). Let’s just focus on the economics.
Three Questions
- What happens to stock markets when wars occur?
- What happens to the stock markets of aggressor countries when wars occur?
- What impacts do wars, or the creation / projection of large military might, have on countries long-term?
Let me give you quick answers to the above, as each subject is realistically too big for even a doctorate level dissertation.
What Happens to Stock Markets When Wars Occur?
On stock markets effects (Question #1): The answer is, “It depends.”
In World War II, the S&P 500 index (see last month’s newsletter), the market was down 0.4%, 9.8% and 11.6% for 1939-1941[i]. Then, the following 4-years *(1942-1945, while the war was still going on), the S&P 500 averaged being up 25.58% per year[ii]. That’s double the long-term annual average.
When the Korean War started in 1950, the S&P 500 was actually up 31.7% in that year[iii].
Saddam Hussein invaded Kuwait in 1990, the S&P 500 dipped 3.1%, but averaged up 12.38% for the next 4-years (1991-1994)[iv].
Wars most definitely disrupt supply lines and consumer economies, but those effects are very hard to predict. As an investor, you’d make bad decisions trying to “time wars” for their stock market impact. Because of global integration, countries (nation-states) are increasingly and unmistakably tied to the world economic system. The Russian economy is struggling under even incomplete sanctions now imposed, and keep in mind that they were not that connected to the world except for their biggest export; oil. Conversely, the economy of China as the manufacturing hub for much of the world (Apple iPhones, etc.) would be much more impacted by global sanctions. Unfortunate as the Ukraine war is, the egregious economic sanctions China would face if they invaded Taiwan has undoubtedly given President Xi some pause.
What Happens to the Stock Markets of Aggressor Countries When Wars Occur?
On the effects to the aggressor country (Question #2): It’s pretty evident that you want to be on the right side of international law and order. Germany is now a paragon of financial stability in Europe, but investors in most German bonds and stocks got wiped out during and after World War II. Regarding the Korean War, South Korean has done very well over the past 50-years and is now defined as one of the “Asian Tigers,” but North Korea has an economy and GDP have struggled (South Korea’s GDP is 54-times bigger than North Korea[v]). Kuwait didn’t have a large “free-float stock market” so it’s hard to give a clear answer on that one but there’s no secret that the economic vibrancy of Iraq has been low since the invasion.
What Impacts Do Wars Have on Countries Long-Term?
Finally, on the impacts of wars long-term (Question #3): It’s complicated, but research would conclude that you cannot be a strong military power unless you are a strong economic power. Having a strong military allows you to protect your citizens and systems, and/or project your influence on the world, but it comes at a cost as having an effective military force is expensive. This economic affordability comment applies to both the “aggressor” as well as the “defender” nation-states.
In an influential book called the “Rise and the Fall of the Great Powers”[vi], John Paul Kennedy argues that a country begins a long-term but nonetheless irreversible decline if you attempt to be a world power but you don’t have the economic chops to sustain it. Just one example would be England in the early 19th century when they ruled the oceans… for a while. As the once-touted British Empire lost steam, the country lost its ability to finance its Navy and the country became an “also-ran” with other countries while certain other nation-states (most notably the United States) ascended in their wake.
In Summary
In summary, you really don’t have to choose between being a strong economic country or a strong military one. In fact, at a very fundamental level, you cannot be one without the other. In the parlance roots of my rural Minnesota background, you’d be likely accused of “having champagne tastes with a beer bottle pocketbook.”
It remains my deep and distinct honor to serve you.
Patrick Zumbusch
Founder and CEO
Wellspring Financial Partners
[i], ii, iii, iv “Matrix Book 2021” (S&P 500 Index, Total Returns, Dimensional Fund Advisors)
[v] “Comparison of the nominal gross domestic product (GDP) between South Korea and North Korea from 2010 to 2019” (Statista.com, March 27, 2022)
[vi] “The Rise and Fall of the Great Powers: Economic Change and Military Conflict from 1500 to 2000” (John Paul Kennedy, Vintage Publishing, January 15, 1989)
