Weekly Risk Outlook

Weekly Risk Outlook
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Governor to add to Brexit debate. Chinese government signals growth may slow. Primaries test Attack-Trump’s success. Syria talks resume. ECB issues rate decision. All in the Weekly Risk Outlook.

Bank of England Governor to add voice to Brexit debate in Parliamentary Testimony

On Tuesday, BOE Governor Mark Carney and Deputy Governor for Financial Stability Jon Cunliffe are slated to testify to the UK Parliament regarding Britain’s EU membership referendum to be held on June 23.

British stock markets and the pound have already responded to early developments in the campaign, with both the FTSE and British currency falling relative to their foreign counterparts following the decision by London mayor Boris Johnson to support the “Out” campaign two weeks ago.

Mark Carney himself has noted the impact of the referendum on financial markets, remarking last week that the Bank of England had sufficient leeway to respond to any significant currency gyrations that result from the “risk premium” of the referendum.

In previous January comments, Carney indicated that financial instability, higher interest rates, and the potential for capital flight could all result from a Brexit, and he will likely be encouraged by “In” supporters in Parliament to expand on those conclusions.

Looking forward, any significant changes in perceived public support or opposition to Brexit over the course of the next three months is likely to weigh on markets and the British currency, much as developments in the Scottish independence referendum close to the actual election date did in 2014 and the U.S. presidential election is likely to do following both parties’ respective conventions in July (and quite possibly before that in the event of a raucous Republican convention).

Prime Minister David Cameron’s “In” strategy appears to have coalesced around the fear factor of what might happen following an “Out” vote, which could have the effect of ratcheting up the emotional response on both sides of the debate, and subsequently grow the economic and political turmoil ahead of the vote.

 

National People’s Congress continues in Beijing as government signals growth may slow but major policy shifts will be elusive

Following last Friday’s announcement from Chinese Premier Li Keqiang that the country’s GDP growth target had been set for 6.5-7% for 2016, the next two weeks will see nearly 3,000 delegates discuss possible new policies for the upcoming year.

This was the first time the country set a range, rather than a specific target (a somewhat tacit recognition that the government may not be able to reach the 7% threshold that had previously been discussed and that it barely failed to reach last year).

Although stock prices rose ahead of the meeting, there remains some skepticism across developed market economies that the Chinese government will carry out the larger reforms that will be necessary to transition the economy from a production-based to a consumption-based one, as the government has indicated its desire to do. Notably, the government has struggled with what to do with its overly large manufacturing capacity, and what to do with the roughly 6 million state workers in “zombie factories” it will likely need to layoff in the next few years, which could become increasingly complicated as the problem grows.

Moody’s has questioned a number of China’s stated commitments to reform, notably in capital liberalization and jobless workers (though markets appear to have largely ignored these concerns). Some analysts have noted that Mr. Li’s speech, bereft of many of the necessary specifics to enact the painful cuts and reforms to lift the economy, seemed closer to previous commitments to “growth at all costs”.

This week, market analysts and China experts will be watching for any signals from the Congress of firm commitments to the market reforms it has claimed to be pursuing.

 

Another Batch of Primaries Will Test Whether Republican Establishment’s Shift to Attack-Trump Mode Has Had Any Success

On Tuesday, Hawaii, Idaho, Michigan, and Mississippi will hold their primaries and caucuses: Hawaii and Idaho for the Republican nominee and Michigan and Mississippi for both parties.

This will be followed on Saturday by the Guam (Republican), DC (Republican), and Northern Marianas (Democratic) caucuses.

None of these states, with the exception of Michigan, are particularly important in terms of the raw number of delegates awarded on either side, and most of the American political class’s will keep its attention focused on next Tuesday’s March 15 primaries in Florida, Illinois, North Carolina, and Missouri (the first 3 states being among the 10 most populous states).

However, the disparate Tuesday and Saturday primaries will represent an interesting stepping stone to the major, winner-take-all states next week.

Of particular note, much of the Republican political class has become increasingly alarmed at the possibility of a Trump candidacy following Senator Marco Rubio’s weak showing on Super Tuesday and the inability of any other candidate to credibly secure more delegates than Trump.

Both the 2012 and 2008 Republican presidential candidates, former Governor Mitt Romney and Senator John McCain, respectively, have come out against the Trump candidacy, and have joined a chorus of Republican political activists, pundits, and some elected officials that have called for an all-out frontal assault on his candidacy.

Discussion has openly shifted to the possibility of a 3rd party candidacy by a conventional Republican should Trump secure the nomination, or possibly cobbling together enough delegates to deny him the nomination at the convention. Both strategies are very unlikely to land a Republican in the White House in November, but it could at least help prevent the Republican Party’s image from suffering even further.

This week’s primaries in Michigan, Hawaii and Idaho, will be a test of how effective this assault by the party establishment against its own front-runner will be before the all-important March 15 states.

As a note for next week’s primaries, both Ohio and Florida are winner-take-all states, and collectively constitute over 150 of the delegates to the Republican convention.

Should Trump manage to secure both states (he is currently polling ahead in Florida, though a number of conservative organizations have bought massive amounts of airtime to reduce his lead over Florida’s Senator Rubio), it would be practically impossible for any candidate to reach Trump, and he may end up on a straight path to securing a majority of the delegates necessary to become the nominee.

 

Syria peace talks resume, though the situation looks increasingly dire

On Wednesday, UN envoy Staffan de Mistura will lead Syria peace talks in Geneva in hopes of extending the fragile ceasefire brokered by the United States and Russia into a broader discussion to end the conflict in Syria.

However, the ceasefire agreed was under strain from the moment it was initiated, and many have suggested it is on the edge of collapse. It remains far from certain at this point whether the political will exists on all sides of the conflict to actually enact a peaceful conclusion to the conflict.

The fact that negotiations between the parties are occurring against the backdrop of a country that has almost ceased to exist as a state, where the entirety of its territory lost power last week, and over 250,000 have died since hostilities began, is unlikely to make negotiations much easier.

With almost half of the population of Syria dead, abroad, or internally displaced, this conflict will likely go down in history as one of the most destructive in per capita terms. It will also serve as a continuous drain on prosperity of both Syria and its neighbors (Turkey, Iraq, Jordan, and Lebanon notably) for decades to come.

If this ceasefire breaks down, or if Mr. de Mistura is unable to help move the process demonstrably further, it is difficult to see where exactly a solution could be found.

Further uncertainty appears likely, even if the ceasefire manages, against the odds, to take hold.

 

ECB issues rate decision for March, as policymakers and analysts question whether central banks have reached the end of their rope

On Thursday, European Central Bank President Mario Draghi and the rest of the Governing Council will meet to review both ECB interest rates as well as its stimulus programs.

This will also represent the first time the ECB Governing Council can digest the impact of the decisions by Japan and Sweden’s central banks to move their interest rates further into negative territory (for Japan, this was a first, for Sweden, this has been a further reduction into negative interest rates that has been ongoing since 2015).

After markets generally shrugged following Japan’s interest rate decision, policymakers from Europe to the U.S. have begun questioning whether central banks have effectively hit the end, policy-wise, on how far they can go to stimulate their countries’ respective economies.

The ECB’s stimulus policy appears slated to expand following this month’s meeting, according to Bank of France Governor Francois Villeroy de Galhau, which may move loans to commercial banks and provide further asset purchases.

It remains to be seen, however, how this tranche of stimulus will help to boost the eurozone’s anemic low inflation. Previous stimulus efforts have proven largely unable to do so, and low energy prices have made this particularly difficult to accomplish.

Additionally, any move by the ECB to push interest rates into negative territory could harm the profits of European banks, and could reduce bank lending.

 

The GRI Weekly Risk Outlook (WRO) provides analytical foresight on the economic consequences of upcoming political developments. Covering a number of future occurrences across the globe, the WRO presents a series of potential upside/downside risks, shedding light on how political decisions affect economic outcomes.

The Weekly Risk Outlook is written by GRI analyst Brian Daigle.

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