This topic was last discussed in our report from May 7, 2012. We have expanded sections of it in this update and, due to length, will present it in two parts. Over the past two years, how American society answers this question is becoming increasingly critical. There is a steady undercurrent in American politics that seeks to withdraw the U.S. from world affairs. For the past two years, President Obama has somewhat supported that position, pulling fully out of Iraq, refusing to act against Syria for using chemical weapons, being reluctant to take aggressive steps to impede Russia’s attempts to undermine the government in Kiev, etc. Most polling suggests that Americans are tired of foreign involvement. At the same time, the polls also show a high degree of dissatisfaction with the president’s approach. To some extent, it appears that the president is giving Americans what they want and they dislike him for it.
We believe there is an explanation for this divergence. First, America, at its founding, is a republic. The Constitution was designed to create a rather inefficient, decentralized government structure with multiple layers of authority. The document makes going to war and funding it a complicated process.
Second, although the U.S. did not necessarily intend to stay out of world affairs, geography conspired to give the U.S. that option. It should be noted that the lower 48 states were not fully formed until 1912. From 1792 until 1912, the U.S. was preoccupied with establishing the country.
In addition, the founders and their successors managed to fix America’s borders in such a fashion that the U.S. faces no serious military threat from its neighbors. The U.S. managed to push the border with Canada far enough north to leave that country with large expanses of Alpine wilderness that can’t support a large population. In the south, the frontier with Mexico was far enough into the desert to make attacks from that direction nearly impossible.
Third, once New Orleans was secure, the U.S. was able to exploit the Mississippi, Missouri and Ohio river systems to move grain and raw materials to other parts of the U.S. and the world. Because the U.S. is blessed with land that is highly productive and conducive to industrialization, gaining complete control over the central systems of rivers supported indigenous economic growth. This geographical benefit, coupled with a growing population, persistent immigration and large land mass, meant that the U.S. was one of the few nations in the world that was able to develop in isolation and industrialize without relying on exports.
Paradoxically, the latter two factors made the U.S. the ideal superpower; America did not have to expend resources for border defense and could develop a large enough economy to undertake the superpower role.
Conversely, European nations could not dominate that continent and thus became imperial powers in order to expand their influence.
In this report, we will discuss how the American republic began, how it evolved into an empire and how America conducted this role. Next week, we will finish our analysis and discuss market ramifications.
How Did This Happen?
America is an accidental empire. The country was born of rebellion, forcibly leaving the British Empire. America, separated by two oceans, lacking precious metals (which doomed South America to plunder) and surrounded by sparsely populated Spanish and British colonies, was able to steadily expand from 1792 to 1912.
The founding fathers created a government designed for slow change. Two legislative houses were created, one representing the size of the population and one the status of the states. The executive, at least domestically, was mostly prevented from dominating the government. The court system was given great but strictly limited power and was removed from the political process. In effect, the founders created a system with checks and balances that prevented anyone from having too much power. Unlike in a parliamentary system, minority rights are offered great protection. The republic was not built for efficiency; in fact, protection from tyranny was a key goal and a strong, centralized government was prone to despotism. Thus, the U.S. government was, at its core, designed to act with great deliberation.
This sort of government worked very well during America’s republic phase. The nation developed into a multi-ethnic, multi-cultural society that was built by waves of immigrants willing to take enormous risks to begin a new life in the United States. The rather cumbersome political process prevented rash actions from being taken and allowed change to occur gradually.
However, after WWI, the world began to intrude on the U.S. Britain, which through its empire had reigned as global superpower since the late 1700s, was faltering. The costs of the world war along with the relative decline of its economy were making it hard for Britain to maintain its superpower status. It tried to engage the U.S. in supporting its status; President Harding, an avowed isolationist, and President Coolidge, who would not consider European debt relief, made it clear that the U.S. was not interested in global involvement. Presidents McKinley, Roosevelt, Taft and Wilson had increased American involvement in global affairs, winning small wars and gathering a few colonies. However, the presidents of the 1920s reversed that internationalizing trend.
As America industrialized, it became an exporting power; interestingly enough, it also tended to use tariffs to protect industries from foreign competition. Essentially, the U.S. benefited from Britain’s superpower “public goods” of protected sea lanes and the use of the pound sterling for trade, but was not interested in supporting the British in return for those public goods.
European debt problems caused a financial crisis that spread to the U.S. The American policy response worsened conditions. The combination of tighter monetary policy into debt liquidation and a sizeable increase in tariffs added to the severity and scope of the Great Depression. The Depression also facilitated the rise of radical authoritarian regimes in Italy, Germany and Japan; the hopelessness that the Depression wrought led people to opt for extreme political figures, looking for “someone” to lead them out of the morass.
These authoritarian regimes ended in tears. WWII forever changed the geopolitical world. The European empires were steadily disbanded. Authoritarianism was discredited; the two major political systems were free market democracy and communism.
The U.S. Defaults into an Empire
Prior to WWII, there was a strong strain of American isolationism. It is important to note that the America First movement was politically powerful right up until the bombing of Pearl Harbor. This movement, with famous members such as Walt Disney, Charles Lindbergh and John Kennedy, was isolationist and worked hard to keep America out of the escalating European conflict.
After WWII, the American political elites concluded that if the U.S. retreated into isolationism then conditions would deteriorate and WWIII would occur. Most felt that retreating to isolationism would cede Europe and Japan to the communists; in fact, there is a rather strong conviction that the isolation of the 1920s and 1930s allowed for conditions that led to WWII. To prevent fighting another world war, the U.S. decided to engage the world. It should be noted, however, that this position was not universally held. Sen. Robert Taft (R-OH) opposed U.S. involvement in the Korean conflict and, in his last speech, warned against American military involvement in Southeast Asia. Taft was a reluctant supporter of Truman’s containment policy, which set the structure of the Cold War. He ran for the GOP’s presidential nomination in 1940, 1944 and 1952. He was the front-runner in the 1952 election, but Dwight Eisenhower, who strongly opposed Taft’s foreign policy, was encouraged to run against him. Eisenhower won the GOP’s nomination in a tight race and went on to win two terms as president. Using Mead’s archetypes, Taft is a Jeffersonian. He became the last significantly powerful Jeffersonian political figure during the Cold War.
Taft’s opposition to America’s global involvement, which was really the evolution of America’s superpower role, was based on his fears that adopting this role would undermine the basic character of the country. In other words, the changes that the U.S. would have to make to fulfill the superpower function would change America in ways that would undermine our freedoms and bring burdens that would be difficult to bear. This is the classic Jeffersonian position on U.S. relations with the world.
History shows that Taft did not prevail. The U.S. became half of a global duopoly of power, sharing that role with the Soviet Union. This superpower status required the U.S. to replace Britain as the leader of the free world. However, instead of fulfilling that role by colonization, the U.S. embarked on another form of hegemony.
This program consisted of three parts for the U.S.:
- Provide the reserve currency for free global trade. The dollar became the reserve currency following the Bretton Woods meeting in 1944. By taking this role, the U.S. would become the global importer of last resort and would be open to trade. This would allow the economies of Europe and Asia to recover from the war. It would also force these economies to become wedded to the U.S. consumer. Essentially, the U.S. consumer became the global locomotive for world economic growth.
- Maintain a large standing military with a global footprint and develop both domestic and international intelligence services. Until the postwar period, the U.S. did not maintain large standing militaries. It had a rudimentary domestic intelligence unit (FBI) but this was more of a national police force. The CIA and the other 16 current intelligence agencies did not exist prior to the war. The large military was initially designed to contain communism. In fact, the U.S. Navy greatly expanded its role, becoming the protector of global sea lanes, relieving Britain of that job.
- Provide global political leadership by creating an international diplomatic structure. Unlike the British (and the Dutch before them), the U.S. did not create a global diplomatic footprint by acquiring colonies. Instead, the U.S. built an international infrastructure of organizations and treaties. The IMF, World Bank and United Nations were part of this program. Even more critical was the creation of regional organizations that acted as buffers. In Europe, for example, NATO prevented Soviet expansion into that continent. The U.S. used Japan and South Korea as a base against communist expansion in that region. In the Middle East, American diplomats managed the region through a balance of power policies, supporting Israel and Saudi Arabia but also, at times, supporting or opposing Egypt, Iran and Iraq.
This program is in direct opposition to the republican model of government used by the U.S. prior to WWII. Before the war, the U.S. tended to protect its industries and ran a generally mercantilist trade policy. The military was small as was defense spending. Spying was generally not done; if a nation doesn’t project power, it doesn’t really need intelligence. The FBI evolved into a domestic intelligence body but it was initially created as a national police force to counteract interstate crime syndicates. Although the State Department maintained embassies worldwide, after the internationalist interlude in the Progressive Era (1896-1920), America was generally isolationist. Government prior to WWII was small; it grew exponentially after the war to provide global import demand and provide security. Simply put, it is not possible to run a small government superpower.
The postwar period was a phenomenal change in direction. It is remarkable that it was accepted as readily as it was. However, the Depression and WWII were traumatic events which persuaded most Americans that change was necessary.
We will conclude this report by looking at the costs of hegemony and the difficult choices that await regardless of the path that is eventually taken. We will also discuss market ramifications.
August 18, 2014
This report was prepared by Bill O’Grady of Confluence Investment Management LLC and reflects the current opinion of the author. It is based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.
 For example, a recent WSJ/NBC poll shows that nearly 50% of Americans believe the U.S. should be “less active” in world affairs, the highest margin in at least 20 years. At the same time, the president’s approval rating in the same poll is down to 41%, the lowest in his second term.
 In fact, the founders could not completely settle on the boundaries of state and federal power. This strategic ambiguity remained unresolved until the Civil War.
 Warren Harding’s campaign slogan was, “A return to normalcy.”
Confluence Investment Management LLC
Confluence Investment Management LLC is an independent, SEC Registered Investment Advisor located in St. Louis, Missouri. The firm provides professional portfolio management and advisory services to institutional and individual clients. Confluence’s investment philosophy is based upon independent, fundamental research that integrates the firm’s evaluation of market cycles, macroeconomics and geopolitical analysis with a value-driven, fundamental company-specific approach. The firm’s portfolio management philosophy begins by assessing risk, and follows through by positioning client portfolios to achieve stated income and growth objectives. The Confluence team is comprised of experienced investment professionals who are dedicated to an exceptional level of client service and communication.