The Future of the European Economy Amidst Geopolitical Change
In this webinar, former Commercial Secretary to the British Treasury Jim O’Neill provided insights on changes taking place in the geopolitical landscape and its impact on the European economy.
Watch the replay here, with summary notes on key topics covered:
The repercussions of the war on the Eurozone
Food, security, oil and the new world order
Europe’s energy dependence
European market pricing and inflation
Russia and the BRICS
Even prior to the Russo-Ukrainian conflict, Jim felt that many earlier market issues have remained uncertain which makes for a very tricky year to navigate. With Russia's invasion in late February, a new degree of complexity further strains an already complex investment sector.
Since the institution of BRICS twenty years ago, both Brazil and Russia performed significantly well during their first decade but faced great difficulties in the last decade. Despite being geographically distant, these two massive countries have very large populations that are too dependent on commodities. They ride the upswing in commodity cycles reasonably well but stand very vulnerable when commodity prices turn down, exposing a strong underlying need for reform.
China, amidst its own challenges, still performs better than most assumptions, while India is sailing fairly. When asked about China's continued close association with Russia, Jim replied:
I think the Chinese must be secretly furious with Putin, ..... the Chinese now know the scale of sanctions that the West is prepared to undertake. If China’s foreign exchange reserves were frozen, the consequences for China would be equally devastating unless China accelerated its financial sector reform and truly accelerated the growth and use of the RMB.
He went on to add that the only reason for friendship between China and Russia is their equal dislike for the American domination of the world.
The Potential Role of Europe
In trying to understand George Soros' great success, Jim believes that a fascinating aspect about geopolitics and market interplays is trying to anticipate policy reaction, which is very important especially for macro-markets. He opined:
I bet Putin did not anticipate that the Germans would do what they've done, and particularly given the coincidental timing of a coalition being led by the SPD, ..... this could be the beginnings of a much more friendly but outward-looking Germany.
Following Germany's measures in the ongoing war crisis, he suggested three important consequences for the future that could ensue:
Re-establishment of the scale of closeness between Germany and France
German government shifting away from a very conservative stance on fiscal policy
Strong realization on the value of NATO
The pandemic has exposed the risk of heavy international dependence around supply chains, and the Russian invasion of Ukraine evidently highlights the constraints that come with it, particularly in the energy sector. While these suggest that we might see more and more countries attempting to move business processes back onshore, he refutes the simplistic notion of deglobalization for a few reasons. For instance, energy sources cannot be simply switched on a whim, and Germany and most of Europe would need to reflect the scale of their commitment to nuclear power or the so-called "alternative energies". Citing the Covid vaccine development as an example for a very dynamic global cooperation, he went on to argue that:
At the end of the day, consumers want access to the best things they can get at affordable prices. And if that means going to different parts of the world, that's what they'll do, .... Needs create musts.
The U.S. and Europe Relations
Amidst difficulties in his fiscal domestic policy in his first year of term, Biden suddenly appears to have navigated the United States' position on the Russo-Ukrainian crisis directly, Jim noted. He commended the U.S. for managing to rekindle the ties between the U.S. and Europe that had been seriously severed during the Trump administration.
Jim sees it from an academic conceptual perspective that Germany, as the anchor economy of the Eurozone, has essentially refused to have an active domestic demand policy, leaving most of the European growth cycle principally dependent on the U.S. and China. He believes, however, that the current events might reveal a more active German economy and security policy, potentially becoming the fundamental basis for a sound currency and opening the door for a truly pan-European bond at some stage in the future.
In addition, he imagines a re-evaluation of how members of EU or NATO incorporate new members in the fold, instead of simply the West inviting countries to join.
Despite a massive unexpected shock on markets resulting from the Russian invasion of Ukraine, he finds it reasonably "normal" for markets to move dramatically and does not see any major changes except for some isolated dislocations. He suspects that the latter half of the year might see inflation going down, amidst current fears of inflation even before the invasion occurred, because of the technical way consumer price indices are calculated. If central banks shift from seeing inflation as purely transitory to being fully convinced that it will be permanent, we would enter a recession in the next 18 months, Jim noted. However, he does not believe that policymakers live in the same ideological box to behave irrationally as they once did.
Message to Investors
Jim wrapped up the event with some personal advice on crisis management for portfolios and asset allocations:
Respect valuations even if they shouldn't be the only basis for investing
Adopt diversification to preserve and grow wealth in the long-term
Be nimble and decisive at key moments - do not be greedy
Terence James O'Neill, Baron O'Neill of Gatley, is a British economist best known for coining BRIC(S), the acronym that stands for Brazil, Russia, India, and China, with the later addition of South Africa. He is the current chairman of the Council of Chatham House, the Royal Institute of International Affairs. He is an Honorary Professor of Economics at the University of Manchester, and a former chairman of Goldman Sachs Asset Management.
The webinar was held on March 16, 2022 in collaboration with The Family Office Bsc (c) and was moderated by Naji Nehme, Chief Investment Officer at Petiole Asset Management.
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