Geopolitical Risks Faced by the Global Economy in 2017

Despite the fact that the global economy is slowly recovering from the Global Financial Crisis in 2008, its recovery is very fragile. With the rising trends in populism, protectionism and anti-globalisation in the world, it can relapse into recession.

2016 has been a very eventful year with very unexpected events happening. With the rise of populism, the United Kingdom (UK) voted to break away from the European Union (EU), while in the United States (US), Donald Trump, who has campaigned against free trade and globalisation, has been elected as the 45th President of the United States.

 

The UK triggering the Article 50, Trump acting on his campaign rhetoric as well as the economic slowdown of the Chinese economy will be determining factors that will eventually affect the global economy in 2017. The interaction of all these factors will also create a very volatile geopolitical and economical environment.

European Union or Disunion

The British Prime Minister Theresa May has stated clearly that Britain is determined to break away from the European Union (EU), triggering the Article 50 by end of March 2017. Since this is an event that has no precedent, it will have major implications within EU as well as globally. 

Once Brexit happens, the EU will lose the second biggest economy within Europe and the world fifth biggest economy. According to the latest World Bank data, the United Kingdom (UK) is also one of the best performing economy when compared with the other advanced European economies, growing at an estimated 2% in 2016. It has outperformed the economic growth in Germany (1.7%), France (1.2%) and Italy (0.9%) in 2016.

As for the UK, if it adopts a 'hard-Brexit', where it loses all access to the European markets, it will no longer have free access to the $15 trillion economy of the European continent as well as the market of about 450 million people.

This means that by and large, a 'hard-Brexit' will eventually affect EU 28 trade. According to the UN Comtrade data, EU 28 traded about $10.4 trillion worth of goods in 2015. From 2005 till 2015, overall trade increased by nearly 29%.

The Brexit negotiation will be tough for both the UK and the EU. On the one hand, ideally, the UK will still prefer to have free access to the European markets, while keeping sovereign control over its borders. On the other hand, to prevent further fragmentation of the EU, the UK will not be given the easy way out by the EU.

With the rise of populism in Europe and with the incoming elections in France, Germany, Italy and Netherlands, the EU is bound to adopt a hardline approach to Brexit. From a political perspective, the EU cannot show to the other EU members that with Brexit, the UK will get a good deal. This will eventually spur on other European countries to follow suit.

So far, the German Chancellor Angela Merkel, with the other European political leaders, has been very firm in saying that there will be no prior Brexit negotiation with the EU or individual European countries, till the UK triggers Article 50. As a result, the British government under Theresa May is preparing that a hard-Brexit will most likely happen.

 

Trump and a Protectionist America

Since the end of World War II, America has been an advocate of free trade, establishing the General Agreement in Tariffs and Trade (GATT) in 1947 and subsequently the World Trade Organisation (WTO) in 1994. For the first time since then, with the election of Donald Trump in 2016, America has a President, who openly advocates protectionism, anti-free trade and anti-globalisation.

According to data from the UN Comtrade, from 2005 till 2015, the US exports increased by about 66%, while its imports increased by about 33%. By and large, with free trade during this period of time, the US trade with the world has increased by about 45% - a cumulative annual growth rate of 3.75%. Hence, adopting protectionism will eventually affect the US trade.

After his inauguration, among Trump's first few executive orders, formally withdrawing from the Trans-Pacific Partnership (TPP) free trade deal has been one of them. Although the TPP deal with 11 other Asia Pacific countries, that has been negotiated over seven years, was signed in early 2016 by all 12 countries, including America, it has not been ratified by the US Congress.

" Trump has vowed to renegotiate the 1994

North American Free Trade Agreement

(NAFTA) with Canada and Mexico. NAFTA

represents about $1.1 billion trade and 30% of

America's global trade. "

Besides TPP, Trump has also signed an executive order to build a physical wall, "closing its border" with Mexico. According to the US Census Bureau, Mexico is the third biggest trading partner of the US with $531.1 billion traded in 2015. Furthermore, during his campaign, Trump has vowed to renegotiate the 1994 North American Free Trade Agreement (NAFTA) with Canada and Mexico. NAFTA represents about $1.1 billion trade and 30% of America's global trade.

In terms of trade and foreign policy, Trump is filling up his cabinet and surrounding himself with people who have been making very critical and aggressive comments against America's major partners like China, Europe and Mexico. During his election campaign, Trump has advocated a 45% and 35% tariffs on imports from China and Mexico respectively. As for Europe, Trump has openly supported Brexit and said that the EU should break up.

Trump's newly confirmed Secretary of State, Rex Tillerson has made comments about confronting China in the South China Sea. Secretary of Commerce Wilbur Ross and the Head of the National Trade Council Peter Navarro have been making comments and advocating actions, that are making America's trade partners, like China, Germany, Japan and Mexico, very jittery.

Economic Slowdown in China

According to the World Bank data, 25 years ago, the Chinese economy represented only 2% of the global economy. After a high economic growth, averaging 9.85% over the last 25 years, the Chinese economy now represents about 15.1% of the global economy. This fast and furious growth has catapulted China to become the world second biggest economy after America.

From 2001 till 2008, China enjoyed a double digit growth averaging 10.68%. But in 2008, the Global Financial Crisis, sparked by the sub-prime crisis in the US, has threatened its economic growth. As a result, China launched a massive economic stimulus package of 4 trillion yuan ($586bn), that has helped to maintain its growth in 2008 and 2009. But from 2010 onwards, growth in China has been on a decline.

" The major challenge for China is to not only

manage the slowdown of its economy within a

weak global economy, but also undertake the

necessary reforms to restructure its economy. "

Since then, China has used a combination of monetary and fiscal stimulus to manage the slowdown of its economy. Although China has so far managed to avoid any drastic economic downturn, since the massive economic stimulus in 2008, China has created not only massive asset bubble within its property and stock market, but also massive over-capacity in its industrial sector, like steel production.

The major challenge for China is to not only manage the slowdown of its economy within a weak global economy, but also undertake the necessary reforms to restructure its economy. Adding onto this, China has to also manage value of the yuan and the massive capital outflow as well as the growing debt burden within its economy.

2017 is a very critical year for China with the coming 19th National Congress of the Communist Party. Although there may be some political leadership changes, President Xi Jinping is most likely going to continue on in his role for a second term. As a result, during this leadership transition, China is going to ensure that there will be no major incident or event affecting this process.

2017 World Outlook

From its recently released 'Global Economic Prospects', the World Bank has forecast that 2017 will continue on improving from 2016 with the global economy growing at 2.7%. While growth in the US is expected to improve from 1.6% to 2%, growth in China and the Eurozone will drop slightly to 6.5% and 1.5% in 2017 from 6.7% and 1.6% respectively, last year.

In terms of gross domestic product, China, Europe and the US represents about 56% of the global economy. As for global trade, according to the UN Comtrade, trade by China, Europe and US also represents about 56% of the overall trade. This means that anything affecting growth and trade in these countries will eventually spill over globally. During the last Global Financial Crisis, the world trade dropped by 23% in 2009. Moreover, due to the drastic drop in commodity prices over the last few years, the value of world trade dropped by about 14% in 2015.

 

There are many geopolitical risks ahead with many uncertainties that may arise. Hence political leaders within China, Europe and US have to thread very carefully during this year. Otherwise, any misjudgement in policies may lead to disastrous consequences, that may pull back the world into recession again.

©  STEEL Advisory Partners  Singapore

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