Political Monitor

Top 5 political risks to watch in 2016

Elections, Energy, Trade, Country Risk

Top 5 Political Risks in 2016

1. The Middle East – tensions rise as influence wanes

Despite the waning influence of Middle Eastern countries on energy markets the region continues to be a source of conflict and geo-political uncertainty. Indeed it is this waning influence and dramatically lower oil prices that have brought the latest regional tensions to the surface as fierce rivals battle for an ever declining share of global oil markets and regional supremacy.

The primary battle remains between Sunni nations lead by Saudi Arabia and Shiite’s lead by Iran. Saudi Arabia’s regime is under increasing pressure as Iran’s return to energy markets threatens Saudi Arabia’s geopolitical relationships and the vital revenue streams that allow it to keep its populace in check.

Meanwhile the rise of ISIS threatens all regimes but its risk grows as regional powers focus on long running feuds with each other rather than this growing threat. While Saudi Arabia and Iran do battle via proxies, Turkey and Iraq are focused on preventing the emergence of a Kurdish nation that would threaten their energy supplies and sovereignty. Syria is of course gripped by a civil war in which rebels are fighting each other as much as they are fighting the regime.

Markets continue to respond to these events with energy and currency markets moving each time the latest events are reported. Yet investors would do well to remember that many aspects of these crisis have escalated exactly because there is a global oil glut and low prices, which have in turn made each producer more desperate to secure their share. It reflects the waning importance of Middle Eastern producers and the emerging reality that they are no longer swing players.

This doesn’t mean events in the region are insignificant but that investors would be wise to test old assumptions and recalibrate their thinking when it comes to the Middle East and markets.

2. US elections – the Donald will make it exciting but demographics are impossible to ignore

The world’s only superpower returns to the polls this year with what was shaping as a standard election between two standard bearers (Hillary Clinton and any establishment candidate from the Republicans) thrown into disarray by the emergence of Donald Trump.

It is entirely conceivable that Trump can win the Republican nomination as the discontents fuelled by eight years of Obama bashing (led by Republican leaders who should have known better) eat their own and seek out a candidate as crazy as they are. However, this doesn’t mean he can win a general election.

In essence, Republicans have two problems, both of which are likely to deny it the White House. First, Trump may not win a majority of delegates and therefore be defeated at a brokered convention by an anyone-but-Trump ticket. This is likely to see Trump break from the Party and run as an Independent, splitting the Republican vote. Second, Trump wins but is gazzumped by America’s demographic reality in which middle class, middle aged, white men (angry, angry men) and their families no longer constitute a majority of the nation leaving Trump the leader of a permanent electoral minority in America, albeit a large one. Not only are Latino’s, African-Americans and other voting blocks unlikely to ever vote for Trump but his mere presence on the ballot is likely to motivate them to turn out and vote for Hillary.

But Hillary will have her own problems with electoral boundaries making it all but impossible for Democrats to win control of Congress and therefore setting the nation up for another 4 – 8 years of partisan bickering and the creeping use of executive powers to get things done.

For markets it guarantees more day-to-day political uncertainty but ironically perhaps some real stability over the longer term. By avoiding the daily headlines investors should be able to reflect on the reality that with so little likely to get done there isn’t much damage politicians can do to business. The biggest challenges will be the now annual conflagration over the budget and debt ceiling and the extent to which American is drawn deeper into conflict in the Middle East.

Read more about US elections and markets.

3. Brexit – a reminder of the inherent tensions in the EU

Will Britain exit the European Union (EU) in 2016 or will another last minute compromise be thrown together? Probably the latter but the fact this is even a question points to the ongoing tensions within the world’s second largest market.

For the last 3 years the EU has rolled from one crisis to another, constantly on the edge of break up or a permanent resolution. But as each crisis dissipates the appetite for real reform wanes and markets are left to await the next crisis.

The most immediate of these will be the forthcoming referendum in the United Kingdom about its future in the EU but a series of other political issues will continue to test the Union’s leaders. The fragmentation of traditional political bases will be the primary concern for politicians and this will be fuelled by sustained immigration challenges, anemic and uneven growth, and the tensions of a common market in which political objectives are varied and often at odds with each other.

Consequently, there is little hope for markets that Europe will provide a much needed growth spurt as China continues its slow down leaving the United States to once again do the heavy economic lifting.

4. China – where the truth lies

Last year we forecast that the veracity of China’s official economic data would come under question as the world’s second largest economy entered a slow down and markets started to look more closely at what exactly was going on.

In 2016 these tensions will grow as the slow down and rebalancing (hoped for) of China’s economy continues amidst a political environment of consolidation by President Xi Jinping.

The risks are not dissimilar to those confronting Saudi Arabia, including a softening economy and therefore fewer bounties to throw at a restless populace. As a result the nation’s leadership will seek to distract the community from the economic weakness and growing inequality. A further crackdown on dissent, dressed up as a fight against corruption, and increasing belligerence in the South China Sea will be two major examples but there is also likely to be a series of smaller feigned international slights and domestic terrorist challenges along the way.

The challenge for markets will be a growing realisation that no government can manage an economy with the supposed precision of China over the last decade and that deep structural flaws await just under the surface as the cracks grow larger. The need for political distraction also puts at risk the Government’s ability to address those challenges with a singular focus.

5. Election Down Under

Ok so not necessarily a major political event for global markets but a big issue here at home. The emergence of former banker and lawyer Malcolm Turnbull as Prime Minister has transformed Australian politics from what would have been a 50 – 50 contest between former Prime Minister Abbott and Labor leader Bill Shorten into a no contest as Turnbull takes a hefty lead in the polls leaving Labor floundering for a strategy that isn’t predicated on the electorate’s dislike of the former PM.

For markets this is largely a positive outcome. Turnbull is a pro-market pragmatist who will continue to push for economic reform without the overreach of John Howard (Australia’s last consequential Prime Minister) that brought about his ultimate demise and began the cycle of revolving door political leaders that made Australia’s political class the laughing stock of the world (or at least the region).

But there are traps for Turnbull. He leads a political party that is in a fight for its identity as hardline conservatives with a primarily social agenda push back against Turnbull’s ascension. These same conservatives are bolstered by elements of the National Party (which governs with the Liberals in a Coalition) who are increasingly opposed to foreign investment and any development of rural areas that doesn’t involve sheep or wheat. This will limit Turnbull’s capacity for large scale economic reform despite his best intentions and critically there is unlikely to be any significant labour reform despite a focus on productivity.

The other major trap is the political culture that has allowed him to rise to the leadership. With a sizable minority ideologically and personally hostile to Turnbull he is only ever a stumble away from internal dissent and distraction. In an environment where no Australian can ever be sure who will be Prime Minister in the morning there will always be a level of uncertainty about policy direction.

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