The biggest threat to the U.S. equity rally will come from Washington D.C. and Donald Trump, according to geopolitical analyst Alastair Newton.
“A trade war of sorts” between U.S. and China will be the biggest threat, followed by Middle East tensions and North Korea, the co-founder and director of Alavan Business Advisory said on BloombergQuint's weekly series, Thank God It's Friday.
Here are edited excerpts from the conversation.
Eurasia Group suggests that 2018 could very likely face a “geopolitical depression”. Keeping in mind how politics is playing out in the U.S., China and North Korea, what is your reading?
If we look at the world from an economic perspective, and look at economic forecast then there is a good degree of optimism about 2018. The question is what, if anything, could burst the bubble. And certainly, one wouldn't roll out economic factors like Fed rising rates could trigger some sort of market reaction which would lead to a bubble in the equity market and maybe bond markets as well.
My personal view is that the top three among these all boil down to focusing on what is likely to emerge from Washington and from Donald Trump. Among my top three lists in descending order of like occurrence are a trade war of sorts which clearly would strike at the heart of U.S.-China ties. China seems to be U.S.' biggest target now notwithstanding the ongoing issues around NAFTA, and possible tensions between U.S. and South Korea.
The second issue is of the Middle East, in particular, the U.S.-Iran relations and also the domestic situation in Saudi Arabia. Let's look at both of these quickly and one of the interesting thing which has happened in the last couple of months is, we are seeing for the first time since 2014 that both Saudi Arabia add and Iran add a political risk premium to the price of crude, currently at a high at $67 a barrel.
The third factor is North Korea. Not to be underestimated but probably more likely to become a potential problem later in the year as North Korea gets closer to Kim Jong Un's stated aim to be able, in theory, to drop a nuclear warhead on the U.S., should it choose to do so.
All those of are real risks but the fattest of them all is the risk of a trade war with China and U.S. at its centre.
Does China now have the opportunity to set international standards in global trade and technology?
It has some opportunity. But we need to be quite cautious about how far this can go. If we look at what we could loosely call the U.S. post-war model, from which Asia as a whole has perhaps benefitted more than any other parts of the world, it has been remarkably successful. And it has been founded on liberal politics, liberal economics and perhaps above all the rule of law, rather than the rule of man.
China still is very much embedded in the rule of man as opposed to the rule of law. And, in particular, the rule of the Communist Party of China which is becoming increasingly undifferentiated from the Chinese state as a whole. The personification of that, of course, is Xi Jinping having his hands very firmly on the levers of power in China, seemingly more firmly than any Chinese leader since Deng Xiaoping, and some may argue since Mao Zedong.
But also manifested in Xi Jinping's shift in China's foreign policy away from the bide and hide mandate which Xiaoping laid down into something which is, some would say, much more aggressive, others would say forceful and some would describe it as sharp power – a mixture of economic power, edginess and lot of ambition manifesting itself perhaps noticeably, not necessarily today in Chinses militarisation of the South China Sea but actually in Xi Jinping's flagship One Belt, One Road project which looking to spread Chinese geopolitical influence through its economic power across swathes of Asia, into Africa and even into Europe.
Trump comes in at a time when the U.S. economy is perceived to be in good shape. The most salient features are tax cuts, looming protectionism and increasing interest rates in the economy. What are your observations and what are the risks the U.S. market faces right now?
All other things being equal, one would expect this to be a good year for U.S. equities based on what has already been a series of good years. The tax cuts will boost corporate profits. A lot of extra money will go into dividends, shareholders, and buybacks. It's hardly an uncontested view, but most will agree to that. Overall, we are looking at a good year for the U.S. equity market.
But a lot of that will be compromised on if Trump starts a serious trade war. Why would he do that? The main reason is Trump's personal approval rating. This is a reality TV star. He is obsessed with his approval ratings. He is above 40 percent right now mainly because of the tax bill going through. It is the highest in the last 9-10 months.
Up until that point, he had been rangebound between 36-38 percent. Donald Trump is going to do whatever he can do to continue to shore up his approval ratings. And he has almost certainly learnt it in the past 9 months that the way to do that is to deliver on commitments he made before the election. When he does that, his approval ratings tend to go up when he fails to, they tend to go down. He made a lot of commitments about the trade on which he has not so far delivered.
I have always argued that Trump would do tax reforms before he did protectionism because of resistance to trade frictions within the Republicans and Congress. He's got his tax bill through and now he will probably turn his attention to trade. What will he do? He probably will take action against China's demands of those wishing to do business or invest in China in terms of handing over intellectual property under Section 301. He will go after aluminum, steel. There are a few other actions in the pipeline as well potentially.
In the meantime, there are few other things going on. China seems to have decided to get its retaliation in first. A few days ago, China changed the rates for American soybean imports on health grounds. Entirely expected in my view but China has hit at a particularly sensitive U.S. economic sector even before Trump gets in the way. Nonetheless, things are happening in Washington. We saw the Generalized System of Preferences agreement expire on Dec. 31 which hits a very large number of emerging markets that benefit from tariff-free imports into the U.S. under that program which has been extant for many years. Which, to be fair, to Donald Trump has gone against temporary abeyance twice in the last 7-8 years or so.
Countries like India are along those affected by this. It has been interesting to see that economic nationalists around Donald Trump have been targeting India, in particular, in saying U.S. administration should not support the renewal of this agreement in its present form. So, we are beginning to see escalation which is promising to be more wide hitting than just China. Nonetheless, Trump seeks to boost his approval ratings.
How do you see the latest development of U.S. cutting the military aid to Pakistan for the stability of the South Asian region?
To sum up in a nutshell, you could put it alongside Trump's recognition of Jerusalem as the capital of Israel, as further evidence of Trump's determination to place his base in the U.S. and further evidence of almost total incoherence of U.S. policy both in the Middle East and Asia.
To elaborate it a little bit, the so-called Indo-Pacific strategy which Trump was boasting about with no substance behind it whatsoever, during his recent Asia tour may arguably be consistent with what has been the latest moves over Pakistan. Certainly they have gone down very well in India. But I do seriously question how Indian authorities think about it and how pleased they can be with Donald Trump doing something which is opening the doors for further Chinese influence in Pakistan.
When I speak to security experts in Delhi and try to talk about Pakistan. the conversation usually goes something like this – 30 seconds on India-Pakistan relation followed by a sentence ‘but the real problem is China' and then about 5 minutes on China-India relations.
Also Read: U.S. Withholds Pakistan Security Aid Over Terrorism Concerns
How are you viewing the flow of foreign investments in emerging Asian economies in comparison to their counterparts across the world?
I still think Asia stands to do remarkably well. If we look at the Asian economies, there is good growth in a fair number of them today. You've got fairly stable environment politically in most of them, notwithstanding some waves in places like the Philippines, Thailand and so on.
Asia stands to continue to benefit from ultra-low interest rates in most of the world still today, which means that there is a lot of cheap cash around and cheap credit. Asia promises to do well over the course of next 12 months or so, all other things being equal. But you do need to look at every market on its individual merits.
I am well disposed towards India as an investment opportunity. Granted that it's actually difficult to find things in India to invest in which represent good value for money today. And also granted that investors will continue to look very closely at BJP's performance in regional elections, throughout this year, especially following the Gujarat elections.
We need to keep the Gujarat election in proportion. The BJP after 22 years in power stayed in power. It was a fairly good result for the Congress but it was still a defeat for Congress. I am not a too concerned about the regional elections at this stage. What the BJP needs to do to keep investors very positive about India, is that it needs to demonstrate that it can fight elections as an incumbent rather than as an insurgent. Because it is now at that stage in the overall political cycle in India where it will increasingly be seen as an incumbent. And Indian voters' propensity for anti-incumbency is extremely well-documented.
Keeping the 2019 general elections in mind, how can the Indian government measures influence economy be going forward?
It's going to be a fiscal stimulus. You are going to see the BJP boosting spending, particularly in rural areas and infrastructure. It would be nice to think that would be coupled with a bigger push on still very necessary structural reforms in India. And structural reforms which are done in a way which makes sense.
GST was a huge step forward, but it was not done in a sensible way, either for the economy or for assuring the BJP reaps the maximum political benefit from bringing in what's actually a sensible measure. It could have been so much simpler.
They need to think carefully about not only on how to do the right reforms in political terms, but how to do them in substantive forms. I'd like to think we will see more of that. We still do have one problem, which hopefully during this year's election will be diminished, which is that the BJP does not have Upper House majority which does mean legislative moves will be more challenging than would have otherwise been the case.
Considering valuations, how are investors viewing India?
Indian equity markets have done very well. They look attractive, but it is difficult to find individual stocks in the market which actually represent clear value. If we saw the push infrastructure or housing investment, that could open up more value for potential investors looking to see government money going in those areas. Renewable energy could be another positive area. A lot will depend on what the government decides to do in terms of spending in detail which would help some sectors in India economy to be seen by foreign investors as offering better value than they perhaps they do today.
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