The launch of Russia’s ‘Special Military Operation’ against Ukraine in February 2022 triggered long overdue interest in geopolitics. Some of it was misplaced, such as market speculation that the invasion of Taiwan was suddenly imminent. But over time the strategic significance of a long war; the loss of much of Russia’s energy and commodities from world markets; the closer alignment of Russia, the People’s Republic of China (PRC), Iran and North Korea; and the positioning of the developing nations (especially India), became clearer. So has understanding of the wider geopolitical and geoeconomic realignment that is underway.
It is not that geopolitically important things had not been happening in previous years. The PRC’s challenge to the international order had accelerated after the arrival of Xi Jinping as General Secretary of the Chinese Communist Party (CCP) in 2012; Graham Allison had warned of the return of ‘Great Power politics’ in 2015; and the rise of populism produced Brexit, Trump, and the surge of the Right in Europe in 2016. But the geopolitical and geoeconomic impact of these events, and of wars in Syria, Afghanistan and Yemen, and state fragility across the Middle East and North Africa, Sahel and Latin America (including in many OPEC states) had been minimal; and the reasons were largely structural.
Politically, with history ended and ‘unipolarity’ breaking out (as it was then thought), warning signs were largely ignored (including the strategic intent behind ostensible economic activity such as the Belt and Road Initiative); wars were expected to continue to be short, or at least small, and seldom between states, and therefore discretionary. Even the rise of inequality in the United States (US) and Europe, and the populism it caused, did not dent political complacency which was reinforced by market complacency.
Economically, of course, globalisation had brought unprecedented wealth and lifted unprecedented numbers out of poverty; but over time it created a belief in the inevitability of growth. Even after the global financial crisis, quantitative easing by central banks doing ‘whatever it takes’ increased liquidity, buoyed asset prices, reduced interest rates, and (they thought) consigned ‘problem inflation’ to history. As a result, until the end of quantitative easing brought the return of higher interest rates, tighter commodities markets, and the return of inflation which was not transitory, the transmission mechanism between geopolitics and markets was effectively dulled. But with exquisite timing, the end of quantitative easing coincided with fiscal expansion as states sought to manage the economic impact of Covid-19, something compounded by Russia’s war against Ukraine, which saw public debt balloon.
The long-term assumption of lawmakers in free and open countries for some time has been of peace and growth, facilitated by the ‘rules-based international order’ (including the Bretton Woods system), a natural order around which it was assumed the world would gravitate. It resonated with the predominant post-Cold War view that the West had won, and that liberal democracy and free market economics were the inevitable end-state for human development.
Against this background, globalisation, as known today, is changing. Long-term challenges of climate, biodiversity, health, demographics, and water are underway and important, although so long-term that some lawmakers feel safe to ignore them. Meanwhile, medium-term changes spanning energy and commodities, supply and value chains, macroeconomics and currencies, and technology are changing markets. While each of these thematic changes is significant in their own right, three factors amplify their importance.
First, they are taking place simultaneously. Second, each has been accelerated by crises (such as Covid-19 and the war against Ukraine). And, third, and perhaps most importantly, each will both impact and be impacted by the political choices of governments, whether weakened democrats or opportunistic autocrats overseeing free market or command economies, but all operating in a period of geopolitical realignment at the heart of which will be competition between the PRC and the US. If 2022 was the year when free and open countries had to come to terms with behaviours it had allowed itself to consider unthinkable, 2023 is the year when they are forced to make the necessary adjustments to respond to changes that are profound and long-term.
Corporates and investors will focus more on sovereignty and resilience in energy and other commodities, and on access to components, intellectual property and markets.
This means a new paradigm in which all states, regional organisations (such as the Gulf Cooperation Council and the European Union (EU)), and economic groups (such as the G7 and BRICS), as well as corporates and investors will focus more on sovereignty and resilience in energy and other commodities, and on access to components, intellectual property and markets. And they will all be seeking to minimise dependencies, maximise independence, and manage risk in increasingly complex interdependencies.
This means considerably increased costs, reduced profits and increasing public and corporate debt against a background of persistent inflation and weak growth. Governments everywhere will face difficult choices, including whether to prioritise decoupling (from the PRC, i.e., its batteries and green technology), or decarbonising to meet Net Zero targets (while finding that most of the emissions reductions made so far have been low hanging fruit, and that further reductions will be more costly and more difficult to deliver). A particular challenge faces the EU where there is unprecedented political fragility in each of its five largest economies and where increased state spending will amplify fragmentation across the euro area just as rules are to be agreed for a return to debt and deficit discipline.
Companies will continue to be tempted to ‘front-run’ government policy to preserve resilience in supply chains and inventories. In the face of US-PRC competition, companies will move production under strategies like ‘in China for China’ and ‘one company, two systems’, to minimise the threat of sanctions being imposed by the governments of free and open countries, or the PRC, or both.
This complex outlook, essentially a 21st-century version of cold war, and between the world’s two largest economies (also the world’s largest economy (the US) and the world’s favourite trading partner (the PRC)), will test American and Chinese resolve and their ability to operate across the economic as well as the political spectrum. The strategic importance of AUKUS and the Quadrilateral Security Dialogue will be limited if Washington does not ‘rejoin’ the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP). Similarly, the importance of the Shanghai Cooperation Organisation, the BRICS, and (especially) the Regional Comprehensive Economic Partnership will be limited if Xi fails to prioritise economic growth over increased CCP control.
In the meantime, even if the US and PRC can stabilise their relationship, dislocation will occur in strategic sectors while most other trade continues, albeit at greater risk. This will demand a fusion of both geopolitical and macro-economic analysis with fundamental research into companies and sectors to price risk. States and companies will need a detailed understanding of the strategic and economic impact of sanctions, tariffs and non-tariff barriers, of monetary policy, and fiscal management spanning subsidies, state aid, credit lines, nationalisation, and even taxes. In other words, the full spectrum of economic as well as political, diplomatic and military levers, applied unilaterally and bilaterally, in multinational and international organisations, and for strategic as well as economic gain.
With such profound geopolitical and geoeconomic change underway, and political weakness and succession risks about to be amplified by 2024 elections (in Britain, Taiwan, Russia, the EU, and US to name but five), the fusion of geopolitical and geoeconomic insight will continue to be a prerequisite for managing market risk in 2024, and, given the prevailing geopolitical conditions, for some time to come.
Neil Brown is a Senior Associate at the Council on Geostrategy.
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