Global Issues to Watch - March 2013 by ISA - International Strategic Analysis

February 26, 2013 11:59 AM | Deleted user
The Challenges Facing China's New President (2013-03-20)
Xi Jinping has officially become China’s new president and as he prepares to lead to the world’s most-populous country for the next ten years, he will find that he faces a myriad of challenges that threaten China’s rise to superpower status. As the head of a government focused on maintaining its grip on power, it will be the internal challenges facing President Xi that will garner the most of his attention. However, as China’s global power and influence continue to grow, a rising number of external challenges will force President Xi to look beyond China’s borders more than any other previous president in China.

Of the large number of internal challenges facing President Xi, three stand out as major threats to China’s future. First and foremost, China is facing unprecedented long-term environmental challenges that include widespread pollution, water shortages and resource depletion. Second, the threat of internal instability remains high as evidenced by the unrest in areas such as Tibet and Xinjiang and the growing resentment for China’s widening wealth inequality. Finally, President Xi will be the first Chinese president in recent decades that will not preside over an economy that is consistently growing by more than 10% per year and the president will have to be sure that this slowdown does not become a hard landing for the world’s second largest economy.

For decades, Chinese leaders focused on China’s internal issues as the country rose from third-world status to one of the world’s most powerful economies. However, this rise has resulted in China’s greater engagement with the world at large, giving rise to new challenges facing the country’s leaders. For example, the ongoing territorial disputes in the waters of East Asia and Southeast Asia are raising tensions between China and many of its neighbors, while the situation on the Korean Peninsula remains as volatile as ever. Further abroad, China’s fast-growing economy is becoming ever more reliant upon energy and other natural resources from around the world and this is forcing China to take steps to protect its access to these resources. Of course, managing relations with the world’s other superpower, the United States, will also be a top priority for President Xi.

The Cyprus Fiasco (2013-03-19)
Cyprus became the fifth Eurozone country to receive a bailout from international lenders and in doing so; this tiny country of just 840,000 is at the center of situation that could reawaken Europe’s debt crisis. This is because the terms of the bailout that were imposed on Cyprus by Eurozone member states (most notably Germany) are so draconian that they are certain to severely dent confidence in banks in the more at-risk countries of the Eurozone. As we have seen the Eurozone’s economy and financial system are so fragile at the moment that even the smallest of countries can cause major disruptions to the European economy.

That Cyprus was in line to receive an international bailout was long expected due to the poor health of the country’s banking sector that had grown much too large and was over-exposed to the devastated Greek economy. What was a surprise was the fact that, as a condition to receive the 10 billion euro ($12.9 billion) bailout, the Cypriot government would impose a one-off levy on all bank deposits held in Cyprus. There had been rumors that larger bank deposits (many of which are held by Russians) would be subject to this tax, but the announcement that smaller bank deposits would also be subject to a one-off 6.75% tax was a surprise and led to angry Cypriots attempting to pull their money out of their accounts, a move that forced the government to close all banks for nearly a week.

The mishandling of this bailout for Cyprus is likely to have major repercussions for the entire Eurozone. First, the terms of this bailout deal have done more to lessen confidence in the banking sectors of weaker Eurozone economies than just about any other event over the past few years. Second, this deal will raise questions about future bailouts in the Eurozone that may be required (such as in Slovenia) and whether or not bank account holders there will also be subject to such a tax. Finally, the reluctance of the Eurozone to use the tools it has at hand to deal with such a crisis (such as the European Stability Mechanism) will reduce confidence in these tools over the longer-run. For a region in the midst of a recession, this blow to the region’s confidence can only make matters worse.

Disappointing India (2013-03-13)
India’s economic slowdown continued to worsen in recent months, with economic growth levels falling further behind not only those of China, but also those of other larger emerging markets in Asia. Moreover, India’s slowdown is due largely to internal factors as its exposure to weak export markets in Europe and parts of Asia is less than that of most other emerging markets. This should focus the Indian government’s attention on the need to enact serious economic reforms that will boost India’s economic competitiveness and increase the level of domestic demand inside India.

Indian GDP growth slowed to just 4.5% on an annualized basis in the fourth quarter of 2012, the lowest rate of economic growth in India in ten years. This slowdown was once again attributed to weaker levels of domestic demand and the continued struggles of the country’s manufacturing and agricultural sectors. Even India’s powerful services sector weakened over the course of last year, depriving India of its main pillar of economic growth prior to the recent slowdown. Meanwhile, persistent inflationary pressures continued to damage India’s domestic market as the Indian government has failed in its efforts to bring inflation under control.

In order to revive India’s economy and allow it to approach Chinese levels of growth, the Indian government needs to take a number of key steps. First, the government desperately needs to make massive investments in the country’s infrastructure and power grid in order to remove the bottlenecks that have severely reduced India’s economic competitiveness. Second, it needs to take greater steps to bring inflation under control, although the soaring demand for food and energy in India is likely to make this a most difficult task. Finally, the government must push through needed reforms that will help India to attract more foreign investment that can develop export-oriented industries that can drive Indian economic growth in the coming years.

North Korea Threatens Again (2013-03-12)
In the wake of the latest round of international sanctions that were imposed on it by the United Nations Security Council, North Korea has stepped up its rhetoric by breaking a number of pacts with South Korea and threatening to go to war with South Korea and the United States. While this is certainly not the first time that Pyongyang has issued such threats, they nevertheless add to the rising level of instability in East Asia. Moreover, they have revealed deep divisions within the leadership in North Korea that pit those in favor of political and economic reforms against much of the country’s armed forces.

It came as no surprise that the international community imposed new sanctions on North Korea following that country’s latest nuclear test last month. It was also no surprise that North Korea’s closest ally, China, backed these sanctions as Beijing had unequivocally warned North Korea against proceeding with this test. In response to these sanctions, North Korea announced that it would end its armistice with South Korea and end all non-aggression pacts with its neighbor to the south. Moreover, it warned that it could strike cities in South Korea, Japan or the United States with its nuclear weapons, although it does not yet possess the capability to do so.

Of particular concern to North Korea should be the fact that China has backed these latest sanctions against Pyongyang in response to its latest nuclear test. This could lead to Beijing lending more support to reform-minded leaders within the North Korean government, including the country’s young leader Kim Jung-un. However, efforts to enact more political and economic reforms in North Korea have generated strong opposition from some quarters, none more important that the country’s vast armed forces. This is due to the fact that the armed forces control much of the North Korean economy and enjoy tremendous political power, both of which would certainly come to an end should the pace of reform accelerate and North Korea open up to the outside world.

The Death of Hugo Chavez and the Future of Venezuela (2013-03-06)
After a near-two-year battle with cancer that forced him to undergo four surgeries and months of chemotherapy, Venezuelan President Hugo Chavez finally succumbed to his illness and died at the age of 58. His death means that early presidential elections will have to take place in Venezuela in the coming weeks, just months after President Chavez was re-elected for a fourth term in office. Moreover, his death comes at a time when Venezuela remains deeply divided, with the deceased president’s supporters in the government and the armed forces showing little inclination to be willing to give up power should voters turn against them.

President Chavez’s legacy is mixed, but there is no question that he was the dominant politician in South America’s swing to the political left over the past 15 years. With his backing, leftist governments took power in a number of countries in the region, including Ecuador and Bolivia. On the positive side, he played a major role in promoting Latin American unity, while enacting a series of social welfare programs designed to improve the livelihoods of the poorest Venezuelans. On the other hand, President Chavez’s mismanagement of the Venezuelan economy severely damaged that country’s vital oil industry while fuelling persistent high rates of inflation that are leading to shortages of many goods and are threatening to destabilize the country.

With President Chavez now dead, a new presidential election will have to take place in Venezuela within the next month. This election will most likely pit President Chavez’s chosen successor, Vice President Nicolas Maduro, against the man he defeated in October 2012’s presidential election, opposition leader Henrique Capriles. Given the popular support for the “Bolivarian Revolution” among poorer Venezuelans, Vice President Maduro is likely to win the presidency. However, it remains to be seen if Venezuela’s political left can remain united without the man who dominated it for the past two decades. If the left fractures, there is a strong chance that the political right can eventually retake power in Venezuela, a development that could lead to major unrest there.

What's Wrong With Brazil? (2013-03-05)
Until recently, Brazil was being touted as the next giant emerging market to realize a major economic boom. This was due to a major increase in economic growth rates in Brazil which led to the expansion of Brazil’s middle class, giving the country what it hoped was a new bedrock of economic stability. Moreover, massive offshore oil and gas discoveries raised hopes that Brazil would become a major energy exporter in the near future. Unfortunately for Brazil, economic growth rates plummeted over the last two years and the country’s longer-term economic health has been called into question.

While Brazil’s economy did rebound slightly in late 2012 from its sharp decline earlier last year, its level of growth remained well below that of all other major emerging markets. Economic growth accelerated in the fourth quarter of 2012 to 1.4% on an annualized basis, bringing the total year’s growth rate for 2012 to just 0.9%. For Brazil, this was a bitter blow, as the government had forecast 2012’s GDP growth rate to be 4.5%. However, Brazil succumbed to the same problem that has plagued many other economies in recent years, a deterioration in export competitiveness.

Over the near-term, this decline in Brazil’s export competitiveness is likely to keep Brazil’s economy from returning to pre-crisis growth levels. This lack of export competitiveness has resulted in a flood of imported goods into Brazil in recent years from competitors such as China and Mexico and this has severely damaged Brazil’s manufacturing sector. In order to improve Brazil’s longer-term outlook, its government will need to dramatically improve the country’s infrastructure in order to reduce exporting costs, while raising productivity levels substantially. If these goals can be achieved, and if the country’s energy sector grows as is hoped, Brazil can still become a dynamic emerging market in the long-term.

The World's Leading Growth Markets for Exports (2013-02-27)
While the world’s leading markets for exports remain the world’s largest developed economies in North America, Europe and East Asia, exports to a number of key emerging markets are rising at a much faster pace. Moreover, long-term trends indicate that emerging markets will continue to account for an increasing share of the growth for exporters in the years ahead, presenting a number of challenges for exporters. The key to success for exporters in the coming years will be their ability to identify which export markets provide the best growth opportunities for their goods and services.

In the developed world, North America remains the world’s largest export market, with the United States and Canada importing nearly $3 trillion in goods last year. Moreover, these two export markets are forecast to grow at a faster pace than most other developed economies in the years ahead. The European Union is the world second-largest export market, with the EU importing $2.2 trillion in goods last year from outside of the EU. However, many European export markets will struggle to grow due to the region’s economic crisis and the longer-term outlook is not very favorable. Finally, the developed economies of the Asia-Pacific region imported around $2.0 trillion in goods last year, but, apart from Australia, growth is forecast to slow over the longer-term.

Higher rates of growth can be found in export markets in the developing world. For example, China’s importing of goods has risen by nearly 700% of the past decade and now stands at nearly $2.0 trillion. In fact, China will surpass the US to become the world’s leading importer within the next two to four years. The vast Middle East and Africa region has also recorded a large increase in imports over the past decade, with this region having imported nearly $1.4 trillion in goods last year, led by the UAE, Saudi Arabia and South Africa. Finally, large emerging markets such as India, Indonesia and Brazil are beginning to emerge as major export markets as well, although none of these countries has yet to meet their full potential and will not do so until their domestic markets mature.

The Impact of Italy's Political Deadlock (2013-02-26)
Voters in many countries have turned against their politicians in recent years, but few to the degree as those in Italy. This was evident in Italy’s parliamentary elections that have resulted in what economists feared most, a deadlocked political system. With no party or coalition immediately able to form a new government, Italy’s fragile economy is likely to be buffeted by rising bond yields and a sharp fall in business, consumer and investor confidence. Moreover, the fact that Italy is the largest economy in southern Europe means that Italy’s political situation has the potential to rekindle Europe’s debt crisis at a time when most of Europe remains in a recession.

While many experts warned that Italy’s parliamentary elections could result in political gridlock, the actual results were nevertheless a surprise to many. As expected, Pier Luigi Bersani’s center-left coalition won control of the lower house of the Italian parliament. However, the center-left coalition was barely able to edge out Silvio Berlusconi’s center-right coalition in the voting and was unable to secure a majority of the seats in Italy’s powerful Senate. Meanwhile, the Five Star Movement led by comedian Beppe Grillo scored a major success by finishing in third place and winning one-quarter of the vote. As Mr. Grillo has stated that he will not work with either of the two main coalitions, a weak government with a minority of the seats in the Senate can be formed or new elections will have to take place.

The overall message of this election was that Italian voters were both fed up with their traditional political leaders as well as with the austerity measures that were enacted by the government of Prime Minister Mario Monti, who’s centrist coalition won just 10.6% of the vote. For Italy, this means that the economic reforms that are needed to revive the moribund Italian economy are unlikely to continue as voters have clearly rejected them. For Europe, this means that the hopes that the debt portion of the region’s economic crisis were in the past have been dashed, as Italy’s political uncertainty is spooking investors at a time when other economies such as Greece, Spain, Cyprus and Slovenia and all facing the potential for needing a bailout from international lenders.

Reprinted from ISA Report published February 26, 2013 (updated March 19, 2013), International Strategic Analysis,  
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