Global risk / The Economist Intelligence Unit 2016.09.14

China experiences a hard landing
High probability, Very high impact; Risk intensity = 20 (クリックで引用開閉)

■Introduction

We assess the prospect of a sharp economic slowdown in China - in which economic growth substantially below our already bearish forecast of 4.2% in 2018 - as the biggest risk to our global forecast.

■Analysis

Continued deterioration in the country's services and manufacturing sectors, a sharp drop-off in private investment, and the ongoing build-up of the country's debt stock (which is now equivalent to at least 240% of GDP) have highlighted structural weaknesses in the economy. The government's means to revive economic confidence are limited. Its huge stimulus in 2009 led to a build-up of bad debt - a problem the government has only exacerbated by the stepping up lending during 2016 - and the People's Bank of China burnt through US$300bn of reserves between September and February in order to prop up the renminbia. Meanwhile, poorly managed official attempts to shore up the stockmarket have highlighted concerns that the government's promise to put a floor under economic growth might not be credible - as well as showing the shallow nature of the government's commitment to allowing market forces to play a role in raising productivity.

■Conclusion

If China's economy slows by more than we currently expect, it will further feed the ongoing global commodity price slump (especially in oil and, in particular, metals), with a hugely detrimental impact on those Latin American, Middle Eastern and Sub-Saharan African states that had benefited from the earlier Chinese-driven boom in commodity prices. In addition, given the growing dependence of Western manufacturers and retailers on demand in China and other emerging markets, a prolonged deceleration in growth there would have a severe knock-on effect across the EU and the US - far more than would have been the case in earlier decades.

Beset by external and internal pressures, the EU begins to fracture
Moderate probability, Very high impact; Risk intensity = 15 (クリックで引用開閉)

■Introduction

The "Brexit" vote in the UK - the first country to leave the EU (excluding Greenland) since its inception - has raised concerns about the future viability of the Union.

■Analysis

Although the UK has long had an ambivalent attitude towards Europe, the hostility of the UK Independence Party towards the EU is mirrored by other European "insurgent" parties, such as the Freedom Party in the Netherlands and Front National in France. With this in mind, there is a risk that the establishment parties in the EU will consider offering an in:out referendum in order to siphon off support from populist parties. This tactic was disastrously employed by the former UK prime minister, David Cameron, and ultimately led to the UK's vote to leave. Although Mr Cameron's fate may deter other European leaders from employing a similar tactic, in reality the arguments pushed by the Brexit campaigners - focused on immigration and loss of sovereignty - chime with much of Europe. The failure of the EU to agree a united response to the refugee crisis - which saw checks and barriers reappearing across Europe's 22-member Schengen area - and the deep resentment in some of the Mediterranean countries towards the stifling austerity measures imposed by the EU (and often led by Germany) are indicative of the tendency of politicians to increasingly eschew co-operation in favour of narrower national priorities.

■Conclusion

With no cogent roadmap in place for the future of the "European project", there is a growing risk of an existential crisis in the EU that could culminate in its eventual fracturing. In the event that the EU were to begin to fall apart and land borders were reimposed, trade flows and economic cooperation would be hindered, harming growth in the world's largest single trading bloc - notably in trade-reliant Germany, which shares land borders with ten fellow Schengen members - and leaving the fragile euro zone states more vulnerable in the event of another economic downturn.

"Grexit" is followed by a euro zone break-up
Moderate probability, Very high impact; Risk intensity = 15 (クリックで引用開閉)

■Introduction

Although an 11th-hour agreement between Greece and its euro zone creditors for a third bail-out in July removed the immediate danger of a "Grexit", the country's future within the euro zone remains at risk.

■Analysis

The fragile Syriza-led governing coalition managed to finally agree a raft of pension and income tax measures imposed by its creditors in May, but the reforms prompted violent protests and, despite IMF pressure, the euro zone finance ministers pushed back any decision on a badly needed debt forgiveness deal until 2018 - a situation that will lessen the already unpopular government's weak appetite to implement the remainder of the bail-out programme's economic reforms. In the event that Greece were to fail to abide by the terms of its bailout, prompting a renewed domestic bank run, the return of capital controls and ultimately its departure from the currency, the idea that membership is irrevocable would no longer hold and attention would turn to other highly indebted countries in the single-currency area. The Greek debacle has shown the fundamental difficulties associated with creating a single currency zone without a concurrent fiscal union (as demonstrated by the ongoing stand-off over the European Commission's proposed fine for Portugal and Spain for breaching the Fiscal Compact). With the euro zone's political and economic problems mounting, these inadequacies will no doubt return to the fore (especially if the worsening Italian banking crisis were to escalate, dragging the Italian government down with it), requiring even greater resources to manage. If Grexit were to lead to other countries leaving the euro zone, this would be hugely destabilising for the global economy.

■Conclusion

Countries leaving the euro zone under duress would suffer large devaluations and be unable to service euro-denominated debts. In turn, banks would suffer huge losses in their sovereign bond portfolios, resulting in major disruption to the global financial system and plunging the world economy into recession.

Currency depreciation and persistent weakness in commodity prices culminate
in emerging-market corpo
Moderate probability, High impact; Risk intensity = 12 (クリックで引用開閉)

■Introduction

We assess that the risk of an emerging market corporate debt crisis has receded of late, as market demand for new debt issuance (both corporate and sovereign) has recovered, reflecting both a tempering of expectations regarding future US rate rises and the renewed stability of global commodity prices. Nevertheless, with the Fed highly likely to recommence its tightening cycle from December 2016, the potential remains for a flight to safety amid the subsequent economic uncertainty.

■Analysis

The countries most vulnerable to the shifting monetary cycle are those with wide fiscal and current-account deficits; those viewed as lacking political and policy credibility; and/or those heavily reliant on commodity exports (in Venezuela's case, all three shortcomings, combined with policy shortcomings, have raised the prospects of hyperinflation and default). Additionally, those countries especially exposed to US trade will be caught in the backdraft of US monetary tightening - as has been seen in Mexico and Chile - forcing many to hike rates in order to avoid destabilising capital outflows and further major currency depreciation. However, this will have serious implications for those predominately emerging-market corporates, especially in Asia, which in recent years have eagerly taken advantage of debt investors' hunt for yield. Since the global financial crisis in 2008 emerging market corporate debt has risen from 50% of GDP to close to 75%, while Chinese credit is still growing at three times the rate of nominal GDP growth. This exposure to rising rates will be exacerbated by weakening local currencies, which will push up the cost of corporate's foreign-currency borrowings - worth US$4.4trn in mid-2015, according to the Institute of International Finance.

■Conclusion

Any rolling emerging-market debt crisis would cause considerable panic across the global capital markets, and may require governments in several economies to step in to shield their banks from the fallout - risking a repeat of the banking crises witnessed in Europe at the start of this decade.

The rising threat of jihadi terrorism destabilises the global economy
Moderate probability, High impact; Risk intensity = 12 (クリックで引用開閉)

■Introduction

The threat of jihadi terrorism has moved towards the top of policymakers' policy agenda after a series of devastating attacks in Lebanon, Turkey, Egypt, France, Belgium and Indonesia in recent months.

■Analysis

Despite losing considerable territory in Iraq and Syria, IS remains an especially challenging group to counter. First, because of its self-declared, albeit diminishing, "caliphate" in Syria and Iraq. Its occupation of this territory provides both an operational base and a propaganda tool. Second, the ease with which it can recruit and motivate attackers around the world. This was demonstrated by the killing of 85 people in the truck attack in Nice, France in July. Taking advantage of its decentralised nature - which allows individuals to operate under its banner anywhere in the world without prior contact with the group - IS has been able to strike a wide variety of targets, as demonstrated by its recent deadly attacks in Turkey, Lebanon and Paris. Besides its ability to win new adherents, IS's other success has been to garner the backing of already established jihadi organisations internationally, such as Ansar Beit al Maqdis in Egypt and Boko Haram in Nigeria. The spread of IS and its influence poses a dilemma for global policymakers, who are under pressure to intervene militarily to suppress the group in its strongholds in the Middle East (especially now that hundreds of thousands of Syrian refugees are seeking sanctuary in Europe), but which in turn would risk reprisals in their home countries by radicalised IS sympathisers. This scenario played out with the destruction of the Russian airliner in Egypt in November, and in the case of the repeated terrorist attacks across France during 2016.

■Conclusion

Should the current spiral of terrorist attacks and reprisals escalate, it would no doubt begin to dent consumer and business confidence, which in turn could threaten to end the five-year bull run on the US and European stockmarkets.

Donald Trump wins the US presidential election
Moderate probability, High impact; Risk intensity = 12 (クリックで引用開閉)

■Introduction

Donald Trump, a political novice and the Republican party's presidential nominee, is locked in a bad-tempered presidential contest with the Democratic party's choice, Hillary Clinton. We assess that Mr Trump's lack of appeal to women and minorities, combined with a steady economy, will ensure victory for Ms Clinton, who has eschewed the more alarmist and divisive rhetoric of her rival. Nevertheless, there are risks to this forecast.

■Analysis

A shock, such as a major terrorist attack on US soil, could increase support for Mr Trump, who has positioned himself as the "law-and-order" candidate. Mr Trump has given very few details of his policies - and these tend to be prone to constant revision - but a few themes have become apparent. First, he has been exceptionally hostile towards free trade, including notably NAFTA, and has repeatedly labelled China as a "currency manipulator". He has also taken an exceptionally punitive stance on the Middle East and jiadhi terrorism, including, among other things, advocating the killing of families of terrorists and launching a land incursion into Syria to wipe out IS (and acquire its oil). In the event of a Trump victory, his hostile attitude to free trade, and alienation of Mexico and China in particular, could escalate rapidly into a trade war. At the least it would scupper the Trans-Pacific Partnership between the US and 11 other American and Asian states signed in February 2016. His militaristic tendencies towards the Middle East (and proposed ban on all Muslim travel to the US) would be a potent recruitment tool for jihadi groups, increasing their threat both within the region and beyond, while his vocal scepticism towards NATO would weaken efforts to contain Russia's expansionist tendencies. Elsewhere, and arguably even more alarmingly, his stated indifference towards nuclear proliferation in Asia raises the prospect of a nuclear arms race in the world's most heavily populated continent.

■Conclusion

Although we do not expect Mr Trump to defeat his most likely Democratic contender, Hillary Clinton, there are risks to this forecast, especially in the event of a terrorist attack on US soil or a sudden economic downturn. It is worth noting that the innate hostility within the Republican hierarchy towards Mr Trump, combined with the inevitable virulent Democratic opposition, will see many of his more radical policies blocked in Congress - albeit such internal bickering will also undermine the coherence of domestic and foreign policymaking.

Chinese expansionism prompts a clash of arms in the South China Sea
Moderate probability, High impact; Risk intensity = 12 (クリックで引用開閉)

■Introduction

The July ruling by the Permanent Court of Arbitration (PAC) in favour of the Philippines in its case against China's claims in the South China Sea, including notably the Spratly Islands, has cast the escalating territorial tensions in the region in a new light.

■Analysis

In recent years China has sought to exert its claimed historical rights to the sea areas demarcated by its so-called nine-dashed line, which encompasses around 85% of the South China Sea. Among other methods, this has included dredging work by Chinese vessels, seemingly focused on turning reefs, atolls and rocks in disputed parts of the South China Sea into artificial islands and, in some instances, military bases. This work has profound territorial implications: according to the UN Convention on the Law of the Sea, uninhabitable rocks have a 12mile territorial zone, while habitable islands have 12mile territorial waters and a 200mile exclusive economic zone. However, in its ruling the PAC argued that there was "no legal basis" for the country to claim historical rights within its nine-dashed line. In response, China unsurprisingly declared the verdict null and void, although the Ministry of Foreign Affairs did say that it was open to negotiations over resolving the dispute. However, the ministry's role in driving policy over the South China Sea has usually been secondary to that of the military and the leadership of the Chinese Community Party, neither of which has shown any predilection to adjust their tactics.

■Conclusion

With China mired in multiple island disputes elsewhere, including with South Korea and Japan, there is a risk that the court setback will provoke China to re-ephasise its de facto control of the disputed region, such as by declaring a no-fly zone. However such an approach could lead to a military build-up in the region, which in turn, would raise the danger of an accident or miscalculation that might lead to a wider military escalation. Any worsening of the row could seriously undermine intra-regional economic ties, and potentially interrupt global trade flows and simultaneously depress global economic sentiment more broadly.

Global growth surges in 2017 as emerging markets rally
Low probability, Very high impact; Risk intensity = 10 (クリックで引用開閉)

■Introduction

Having endured huge ructions in the currency and commodity markets in 2015 and massive swings in the global equity markets in early 2016, the emerging markets may be about to undergo a surprisingly rapid economic rebound.

■Analysis

The start of 2016 was fraught for global currency and commodity markets, with the oil price slumping towards US$25/barrel and a raft of emerging market currencies hit by the start of US monetary tightening. The resulting dip in global equity markets was exacerbated by growing concerns over China's economic slowdown and the depreciations of the renminbi. However, since February there has been a significant turnaround in investor sentiment, with global equity markets rallying to their pre-2016 highs, the oil price bouncing back to around US$50/b, and the renminbi strengthening once again. Indeed, financial markets even took the Brexit vote in their stride. As a consequence, capital inflows into emerging markets have resumed in 2016, following two years of outflows, and the stage may now be set for a period of greater macroeconomic, currency and commodity stability, which could propel global growth, at market exchange rates, to 4% in 2017 (the highest level since 2010). This would be the highest level since 2010, when the global economy was awash with post-crisis stimulus measures.

■Conclusion

A broad-based acceleration in growth would not only provide welcome relief to slow-growing euro zone countries, which remain heavily reliant on export demand, but could also assist in China's economic rebalancing. An improvement in global, and in particular Chinese, demand would also provide a major fillip for global commodity prices, providing welcome relief for a slew of Latin American, Middle Eastern and African exporters.

Rising tide of political populism in the OECD results in a retreat from globalisation
Moderate probability, Moderate impact; Risk intensity = 9 (クリックで引用開閉)

■Introduction

The UK vote to depart the EU marks arguably the biggest setback for economic and political integration within the OECD since the onset of the Great Recession, and will prompt major soul-searching - and in some cases outright panic - among many Western governments.

■Analysis

As shown in the strong support for Donald Trump in the US and the growing influence of populist parties (both left and right) in, for example, Spain (Podemos), Italy (Five Star) and France (Front National), there is a powerful backlash underway against the consequences of globalisation. This backlash is understandable. The benefits of trade liberalisation tend to be spread thinly across the vast bulk of the population, and thus often go little noticed; in contrast, the victims of globalisation, such as those living in areas heavily reliant on a dwindling manufacturing or industrial base, are often concentrated and disproportionately affected. This dichotomy has been exacerbated by a stagnation in living standards for many people across the OECD in the past decade. In the face of these headwinds, it will prove difficult to ratify trade agreements. We expect the long-mooted Transatlantic Trade and Investment Partnership (TTIP; a proposed trade agreement between the EU and US) to fail to be agreed upon, and the Trans Pacific Partnership (TPP; between the US and 11 other countries) to require years of renegotiation before it can be ratified. There is even a risk of a wholesale protectionist revival if, for example, the OECD were to go through another economic downturn.

■Conclusion

The impact of a protectionist wave would be felt around the world. In wealthy OECD countries with a dominant services sector, rising trade tariffs would push up living costs and depress domestic demand, causing economic growth to slow. Meanwhile, among major low-cost exporters, such as those concentrated in East Asia, higher barriers would curb exports, investment and job creation.

A collapse in investment in the oil sector prompts a future oil price shock
Very low probability, High impact; Risk intensity = 4 (クリックで引用開閉)

■Introduction

The response of the world's oil companies to lower oil prices should raise concerns about the long-term impact on future energy supplies.

■Analysis

Around US$400bn-1trn dollars-worth of oil and gas projects have been deferred or cancelled (a process that actually started before the decline in oil prices began), despite the fact that a global energy consultancy, Wood Mackenzie, estimates that over 20m barrels/day of new capacity needs to be brought on stream by 2025 to offset declining output in ageing fields and to meet new demand. History also provides repeated warnings of the long-term impact of oil price slumps: the surge in oil prices to close to US$150/barrel in 2008, for example, can be traced back to the investment freeze across the industry in the wake of the oil price collapse in 1998. In addition, the prospect of an oil production "freeze" deal between Russia and OPEC remains on the agenda, which, if implemented, could accelerate any market rebalancing and, in turn, exacerbate the impact of the investment downturn. Meanwhile, contrary to historical precedent, the oil market is still not fully taking into account geopolitical risks to supplies, ranging from war in the Middle East to political ructions in Venezuela and outages in Nigeria.

■Conclusion

The risk of an oil price shock in 2017-21 is low currently. However, the volatile geopolitical environment in the Middle East and eastern Europe, and the longer-term impact of a curtailing of investment in the sector, provide upside risk.

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