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Highlights Commodity markets will face growing supply challenges over the next decade as the US and China prepare for war, if only to deter war. Chinese President Xi Jinping's push for greater self-reliance at home and supply chain security abroad is reinforced by the West’s focus on the same interests. The erosion of a single rules-based global trade system increases the odds of economic and even military conflict. The competition for security is precipitating a reforging of global supply chains and a persistent willingness to use punitive measures, which can escalate into boycotts, embargoes, and even blockades (i.e. not only Huawei). The risk of military engagements will rise, particularly along global chokepoints and sea lanes needed to transport vital commodities. Import dependency and supply chain risk are powerful drivers of decarbonization efforts, especially in China. On net, geopolitical trends will keep the balance of commodity-price risks tilted to the upside. Commodity and Energy Strategy remains long commodity index exposure on a strategic basis via the S&P GSCI and the COMT ETF.  Note: Even in the short term, a higher geopolitical risk premium is warranted in oil prices due to US-Iran conflict. Feature The Chinese Communist Party (CCP) under President Xi Jinping has embarked on a drive toward autarky, or economic self-sufficiency, that has enormous implications, especially for global commodities. Beijing believes it can maintain central control, harness technology, enhance its manufacturing prowess, and grow at a reasonable rate, all while bulking up its national security. The challenge is to maintain social stability and supply security through the transition. China lives in desperate fear of the chaos that reigned throughout most of the twentieth and twenty-first centuries, which also enabled foreign domination (Chart 1). The problem for the rest of the world is that Chinese nationalism and assertive foreign policy are integral aspects of the new national strategy. They are needed to divert the public from social ills and deter foreign powers that might threaten China’s economy and supply security. Chart 1China Fears Any Risk Of Another ‘Century Of Humiliation’ The chief obstacle for China is the United States, which remains the world leader even though its share of global power and wealth is declining over time. The US is formally adopting a policy of confrontation rather than engagement with China. For example, the Biden administration is co-opting much of the Trump administration's agenda. Infrastructure, industrial policy, trade protectionism, and the “pivot to Asia” are now signature policies of Biden as well as Trump (Table 1).1 Table 1US Strategic Competition Act Highlights Return Of Industrial Policy, Confrontation With China Many of these policies are explicitly related to the strategic aim of countering China’s rise, which is seen as vitiating the American economy and global leadership. Biden’s Trump-esque policies are a powerful indication of where the US median voter stands and hence of long-term significance (Chart 2). Thus competition between the US and China for global economic, military, and political leadership is entering a new phase. China’s drive for self-reliance threatens the US-led global trade system, while the US’s still-preeminent geopolitical power threatens China’s vital lines of supply. Chart 2US Public’s Fears Are China-Centric Re-Ordering Global Trade The US’s and China’s demonstrable willingness to use tariffs, non-tariff trade barriers, export controls, and sanctions cannot be expected to abate given that they are locked in great power competition (Chart 3). More than likely, the US and China will independently pursue trade relations with their respective allies and partners, which will replace the mostly ineffective World Trade Organization (WTO) framework. The WTO is the successor to the rules-based and market-oriented system known as the General Agreement on Tariffs and Trade (GATT), which was formed following World War II. The GATT’s founders shared a strong desire to avoid a repeat of the global economic instability brought on by World War I, the Great Crash of 1929, and the retreat into autarky and isolationism that led to WWII. Chart 3US and China Imposing Trade Restrictions This inter-war period saw domestically focused monetary policies and punishing tariffs that spawned ruinous bouts of inflation and deflation. Minimizing tariffs, leveling the playing field in trading markets, and reducing subsidization of state corporate champions were among the GATT's early successes. The WTO, like the GATT before it, has no authority to command a state to change its economy or the way it chooses to organize itself. At its inception the GATT's modus vivendi was directed at establishing a rules-based system free of excessive government intrusion and regulation. If governments agreed to reduce their domestic favoritism, they could all improve their economic efficiency while avoiding a relapse into autarky and the military tensions that go with it.2 The prime mover in the GATT's founding and early evolution – the USA – firmly believed that exclusive trading blocs had created the groundwork for economic collapse and war. These trading blocs had been created by European powers with their respective colonies. During the inter-war years the revival of protectionism killed global trade and exacerbated the Great Depression. After WWII, Washington was willing to use its power as the global hegemon to prevent a similar outcome. Policymakers believed that European and global economic integration would encourage inter-dependency and discourage protectionism and war. The fall of the Soviet Union reinforced this neoliberal Washington Consensus. Countries like India and China adopted market-oriented policies. The WTO was formed along with a range of global trade deals. Ultimately the US and the West cleared the way for China to join the trading bloc, hoping that the transition from communism to capitalism would eventually be coupled with social and even political liberalization. The world took a very different turn as the United States descended into a morass of domestic political divisions and foreign military adventures. China seized the advantage to expand its economy free of interference from the US or West. The West failed to insist that liberal economic reforms keep pace.3 Moreover, when China joined the WTO in 2001, the organization was in a state of "regulatory stalemate," which made it incapable of dealing with the direct challenges presented by China.4 Today President Xi has consolidated control over the Communist Party and directs its key economic, political, and military policymaking bodies. He has deepened party control down to the management level of SOEs – hiring and firing management. SOEs have benefited from Xi’s rule (Chart 4). But now the West is also reasserting the role of the state in the economy and trade, which means that punitive measures can be brought to bear on China’s SOEs. Chart 4State-Owned Enterprises Benefit From Xi Administration What Comes After The WTO? The CCP has shown no interest in coming around to the WTO's founding beliefs of government non-interference in the private sector. For example, it is doubling down on subsidization and party control of SOEs, which compete against firms in other WTO member states. Nor has the party shown any inclination to accept a trade system based on the GATT/WTO founding members' Western understanding of the rule of law. These states represent market-based economies with long histories of case law for settling disputes. Specifically, China’s fourteenth five-year plan and recent policies re-emphasize the need to upgrade the manufacturing sector rather than rebalancing the economy toward household consumption. The latter would reduce imbalances with trade deficit countries like the US but China is wary of the negative social consequences of too rapidly de-industrializing its economy. It wants to retain its strategic and economic advantage in global manufacturing and it fears the social and political consequences of fully adopting consumer culture (Chart 5). Chart 5China’s Economic Plans Re-Emphasize Manufacturing, Not Consumption The US, EU, and Japan have proposed reform measures for the WTO aimed at addressing “severe excess capacity in key sectors exacerbated by government financed and supported capacity expansion, unfair competitive conditions caused by large market-distorting subsidies and state owned enterprises, forced technology transfer, and local content requirements and preferences.”5 But these measures are unlikely to succeed. China disagrees with the West’s characterization. In 2018-19, during the trade war with the US, Beijing contended that WTO members must “respect members’ development models.” China formally opposes “special and discriminatory disciplines against state-owned enterprises in the name of WTO reform.”6 In bilateral negotiations with the US this year, China’s first demand is that the US not to oppose its development model of “socialism with Chinese characteristics” (Table 2). Table 2China’s Three Diplomatic Demands Of The United States (2021) Yet it is hard for the US not to oppose this model because it involves Beijing using the state’s control of the economy to strengthen national security strategy, namely by the fusion of civil and military technology. Going forward, the Biden administration will violate the number one demand that Chinese diplomats have made: it will attempt to galvanize the democracies to put pressure on China’s development model. China’s demand itself reflects its violation of the US primary demand that China stop using the state to enhance its economy at the expense of competitors. If a breakdown in global trading rules is replaced by the US and China forming separate trading blocs with their allies and partners, the odds of repeating the mistakes of the inter-bellum years of 1918-39 will significantly increase. Tariff wars, subsidizing national champions, heavy taxation of foreign interests, non-tariff barriers to trade, domestic-focused monetary policies, and currency wars would become more likely. China’s Strategic Vulnerability The CCP has delivered remarkable prosperity and wealth to the average Chinese citizen in the 43 years since it undertook market reforms, and especially since its accession to the WTO in 2001 (Chart 6). China has transformed from an economic backwater into a $15.4 trillion (2020) economy and near-peer competitor to the US militarily and economically.7 This growth has propelled China to the top of commodity-importing and -consuming states globally for base metals and oil. We follow these markets closely, because they are critical to sustaining economic growth, regardless of how states are organized. Production of and access to these commodities, along with natural gas, will be critical over the next decade, as the world decarbonizes its energy sources, and as the US and China address their own growth and social agendas while vying for global hegemony. Decarbonization is part of the strategic race since all major powers now want to increase economic self-sufficiency and technological prowess. Chart 6CCPs Remarkable Success In Growing Chinas Economy Over recent decades China has become the largest importer of base metals ores (Chart 7) and the world's top refiner of many of these metals. In addition, it is the top consumer of refined metal (Chart 8). Chart 7China Is World’s Top Ore Importer Chart 8China Is Worlds Top Refined Metal Consumer By contrast, the US is not listed among ore importers or metals consumers in the Observatory of Economic Complexity (OEC) databases we used to map these commodities. This reflects not only domestic supplies but also the lack of investment and upgrades to the US's critical infrastructure over 2000-19.8 Going forward, the US is trying to invest in “nation building” at home. An enormous change has taken shape in strategic liabilities. In the oil market, the US went from being the world's largest importer of oil in 2000, accounting for more than 24% of imports globally, to being the largest oil and gas producer by 2019, even though it still accounted for more than 12% of the world's imports (Chart 9). In 2000, China accounted for ~ 3.5% of the world's oil imports and by 2019 it was responsible for nearly 21%. China is far behind per capita US energy consumption, given its large population, but it is gradually closing the gap (Chart 10). Overall energy consumption in China is much higher than in the US (Chart 11). Chart 9US Oil Imports Collapse As Shale Production Grows Chart 10Energy Use Per Capita In China Far From US Levels... Chart 11China Is World’s Largest Primary Energy Consumer China's impressive GDP growth in the twenty-first century is primarily responsible for China's stunning growth in imports and consumption of oil (Chart 12) and copper (Chart 13), which we track closely as a proxy for the entire base-metals complex. Chart 12Global Oil Demand Forecast Remains Steady Chinas GDP Drives Oil Consumption, Imports Chart 13Global Oil Demand Forecast Remains Steady Chinas GDP Drives Refined Copper Consumption And Ore Imports China’s importance in these markets points to an underlying strategic weakness, which is its dependency on imports. This in turn points to the greatest danger of the breakdown in US-China relations and the global trade system. The Road To War? China is extremely anxious about maintaining supply security in light of these heavy import needs. Its pursuit of economic self-sufficiency, including decarbonization, is driven by its fear of the US’s ability to cut off its key supply lines. China’s first goal in modernizing its military in recent years was to develop a naval force capable of defending the country from foreign attack, particularly in its immediate maritime surroundings. Historically China suffered from invaders across the sea who took advantage of its weak naval power to force open its economy and exploit it. Today China is thought to have achieved this security objective. It is believed to have a high level of capability within the “first island chain” that surrounds the coast, from the Korean peninsula to the Spratly Islands, including southwest Japan and Taiwan (Map 1).9 China’s militarization of the South China Sea, suppression of Hong Kong, and intimidation of Taiwan shows its intention to dominate Greater China, which would put it in a better strategic position relative to other countries. Map 1China’s Navy Likely Achieved Superiority Within The First Island Chain China’s capability can be illustrated by comparing its naval strength to that of the United States, the most powerful navy in the world. While the US is superior, China would be able to combine all three of its fleets within the first island China, while the US navy would be dispersed across the world and divided among a range of interests to defend (Table 3). China would also be able to bring its land-based air force and missile firepower to bear within the first island chain, as opposed to further abroad.10 Table 3China’s Naval Growth Enables Primacy Within First Island Chain In this sense China is militarily capable of conquering Taiwan or other nearby islands. President Xi Jinping had in fact ordered China’s armed forces be capable of doing so by 2020.11 Taiwan continues to be the most significant source of insecurity for the regime. True, a military victory would likely be a pyrrhic victory, as Taiwan’s wealth and tech industry would be destroyed, but China probably has the raw military capability to defeat Taiwan and its allies within this defined space. However, this military capability needs to be weighed against economic capability. If China seized military control of Taiwan, or Okinawa or other neighboring territories, the US, Japan, and their allies would respond by cutting off China’s access to critical supplies. Most obviously oil and natural gas. China’s decarbonization has been impressive but the reliance on foreign oil is still a fatal strategic vulnerability over the next few years (Chart 14). China is rapidly pursuing a Eurasian strategy to diversify away from the Middle East in particular. But it still imports about half its oil from this volatile region (Chart 15). The US navy is capable of interdicting China’s critical oil flows, a major inhibition on China’s military ambitions within the first island chain. Chart 14Chinas Energy Diversification Still Leaves Vulnerabilities Of course, if the US and its allies ever blockaded China, or if China feared they would, Beijing could be driven to mount a desperate attack to prevent them from doing so, since its economic, military, and political survival would be on the line. Chart 15China Still Dependent On Middle East Energy Supplies The obvious historical analogy is the US-Japan conflict in WWII. Invasions that lead to blockades will lead to larger invasions, as the US and Japan learned.12 However, the lesson from WWII for China is that it should not engage the US navy until its own naval power has progressed much further. In the event of a conflict, the US would be imposing a blockade at a distance from China’s naval and missile forces. When it comes to the far seas, China’s naval capabilities are extremely limited. Military analysts highlight that China lacks a substantial naval presence in the Indian Ocean. China relies on commercial ports, where it has partial equity ownership, for ship supply and maintenance (Table 4). This is no substitute for naval basing, because dedicated military facilities are lacking and host countries may not wish to be drawn into a conflict. Table 4China’s Network Of Part-Owned Ports Across The World: Useful But Not A Substitute For Military Bases Further, Beijing lacks the sea-based air power necessary to defend its fleets should they stray too far. And it lacks the anti-submarine warfare capabilities necessary to defend its ships.13 These capabilities are constantly improving but at the moment they are insufficient to overthrow US naval control of the critical chokepoints like the Strait of Hormuz or Strait of Malacca. While China’s naval power is comparable to the US’s Asia Pacific fleet (the seventh fleet headquartered in Japan), it is much smaller than the US’s global fleet and at a much greater disadvantage when operating far from home. China’s navy is based at home and focused on its near seas, whereas US fleet is designed to operate in the far seas, especially the Persian Gulf, which is precisely the strategic area in question (Chart 16).14 China is gradually expanding its navy and operations around the world, so over time it may gain the ability to prevent the US from cutting off its critical supplies in the Persian Gulf. But not immediately. The implication is that China will have to avoid direct military conflict with the United States until its military and naval buildup has progressed a lot further. Chart 16China’s Navy At Huge Disadvantage In Distant Seas Meanwhile Beijing will continue diversifying its energy sources, decarbonizing, and forging supply chains across Eurasia via the Belt and Road Initiative. What could go wrong? We would highlight a few risks that could cause China to risk war even despite its vulnerability to blockade: Chart 17China’s Surplus Of Males Undergirds Rise In Nationalism Domestic demographic pressure. China is slated to experience a dramatic bulge in the male-to-female ratio over the coming decade (Chart 17).15 A surfeit of young men could lead to an overshoot of nationalism and revanchism. This trend is much more important than the symbolic political anniversaries of 2027, 2035, and 2049, which analysts use to predict when China’s military might launch a major campaign. Domestic economic pressure. China’s turn to nationalism reflects slowing income growth and associated social instability. An economic crisis in China would be worrisome for regional stability for many reasons, but such pressures can lead nations into foreign military adventures. Domestic political pressure. China has shifted from “consensus rule” to “personal rule” under Xi Jinping. This could lead to faulty decision-making or party divisions that affect national policy. A leadership that carefully weighs each strategic risk could decay into a leadership that lacks good information and perspective. The result could be hubris and belligerence abroad. Foreign aggression. Attempts by the US or other powers to arm China’s neighbors or sabotage China’s economy could lead to aggressive reaction. The US’s attempt to build a technological blockade shows that future embargoes and blockades are not impossible. These could prompt a war rather than deter it, as noted above. Foreign weakness. China’s capabilities are improving over time while the US and its allies lack coordination and resolution. An opportunity could arise that China’s strategists believe they cannot afford to miss. Afghanistan is not one of these opportunities, but a US-Iran war or another major conflict with Russia could be. The breakdown in global trade is concerning because without an economic buffer, states may resort to arms to resolve disputes. History shows that military threats intended to discourage aggressive behavior can create dilemmas that incentivize aggression. The behavior of the US and China suggests that they are preparing for war, even if we are generous and assume that they are doing so only to deter war. Both countries are nuclear powers so they face mutually assured destruction in a total war scenario. But they will seek to improve their security within that context, which can lead to naval skirmishes, proxy wars, and even limited wars with associated risks of going nuclear. Investment Takeaways The pursuit of the national interest today involves using fiscal means to create more self-sufficient domestic economies and reduce international supply risks. Both China and the West are engaged in major projects to this end, including high-tech industrialization, domestic manufacturing, and decarbonization. These trends are generally bullish for commodities, even though they include trends like military modernization and naval expansion that could well be a prelude to war. War itself leads to commodity shortages and commodity price inflation, but of course it is disastrous for the people and economies involved. Fortunately, strategic deterrence continues to operate for the time being. The underlying geopolitical trend will put commodity markets under continual pressure. A final urgent update on oil and the Middle East: The US attempt to conduct a strategic “pivot” to Asia Pacific faces a critical juncture. Not because of Afghanistan but because of Iran. The Biden administration will have trouble unilaterally lowering sanctions on Iran after the humiliating Afghanistan pullout. The new administrations in both Iran and Israel are likely to establish red lines and credible threats. A higher geopolitical risk premium is thus warranted immediately in global oil markets. Beyond short-term shows of force, everything depends on whether the US and Iran can find a temporary deal to avoid the path to a larger war. But for now short-term geopolitical risks are commodity-bullish as well as long-term risks.   Robert P. Ryan Chief Commodity & Energy Strategist rryan@bcaresearch.com Matt Gertken Vice President Geopolitical Strategy mattg@bcaresearch.com   Footnotes 1     There are also significant differences between Biden and Trump in other areas such as redistribution, immigration, and social policy. 2     See Ravenhill, John (2020), Regional Trade Agreements, Chapter 6 in Global Political Economy, which he edited for Oxford University Press, particularly pp. 156-9. 3    “As time went by, the United States realized that Communism not only did not retreat, but also further advanced in China, with the state-owned economy growing stronger and the rule of the Party further entrenched in the process." See Henry Gao, “WTO Reform and China Defining or Defiling the Multilateral Trading System?” Harvard International Law Journal 62 (2021), p. 28, harvardilj.org.  4    See Mavroidis, Petros C. and Andre Sapir (2021), China and the WTO, Why Multilateralism Still Matters (Princeton University Press) for discussion.  See also Confronting the Challenge of Chinese State Capitalism published by the Center for Strategic & International Studies 22 January 2021. 5    Gao (2021), p. 19. 6    Gao (2021), p. 24. 7     Please see China's GDP tops 100 trln yuan in 2020 published by Xinhuanet 18 January 2021. 8    We excluded 2020 because of the COVID-19 pandemic's effects on supply and demand for these ores, metals and crude oil. 9    See Captain James Fanell, “China’s Global Navy Strategy and Expanding Force Structure: Pathway To Hegemony,” Testimony to the US House of Representatives, May 17, 2018, docs.house.gov. 10   Fanell (2018), p. 13. 11    He has obliquely implied that his vision for national rejuvenation by 2035 would include reunification with Taiwan. Others suggest that the country’s second centenary of 2049 is the likely deadline, or the 100th anniversary of the People’s Liberation Army. 12    The US was a major supplier of oil to Japan, and in 1941 it froze Japan's assets in the US and shut down all oil exports, in response to Japan's military incursion into China in the Second Sino-Japanese War of 1937-45.  Please see Anderson, Irvine H. Jr. (1975), "The 1941 De Facto Embargo on Oil to Japan: A Bureaucratic Reflex," Pacific Historical Review, 44:2, pp. 201-231.  13   See Jeffrey Becker, “Securing China’s Lifelines Across the Indian Ocean,” China Maritime Report No. 11 (Dec 2020), China Maritime Studies Institute, digital-commons.usnwc.edu. 14   See Rear Admiral Michael McDevitt, “Becoming a Great ‘Maritime Power’: A Chinese Dream,” Center for Naval Analyses (June 2016), cna.org. 15   For discussion see Major Tiffany Werner, “China’s Demographic Disaster: Risk And Opportunity,” 2020, Defense Technical Information Center, discover.dtic.mil.  

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Highlights China’s Communist Party has overcome a range of challenges over the past 100 years, performed especially well over the past 42 years, but the macro and geopolitical outlook is darkening. The “East Asian miracle” phase of Chinese growth has ended. Potential GDP growth is slowing and it will be harder for Beijing to maintain financial and sociopolitical stability. The Communist Party has shifted the basis of its legitimacy from rapid growth to quality of life and nationalist foreign policy. The latter, however, will undermine the former by stirring up foreign protectionism. In the near term, global investors should favor developed market equities over China/EM equities. But they should favor China and Hong Kong stocks over Taiwanese stocks given significant geopolitical risk over the Taiwan Strait. Structurally, favor the US dollar and euro over the renminbi. Feature Ten years ago, in the lead up to the Communist Party’s 90th anniversary, I wrote a report called “China and the End of the Deng Dynasty,” referring to Deng Xiaoping, the Chinese Communist Party’s great pro-market reformer.1 The argument rested on three points: the end of the export-manufacturing economic model, an increasingly assertive foreign policy, and the revival of Maoist nationalism. After ten years the report holds up reasonably well but it did not venture to forecast what precisely would come next. In reality it is the rule of the Communist Party, and not the leader of any one man, that fits into China’s history of dynastic cycles. As the party celebrates a hundred years since its founding on July 23, 1921, it is necessary to pause and reflect on what the party has achieved over the past century and what the current Xi Jinping era implies for the country’s next 100 years. Single-Party Rule Can Bring Economic Success. Communism Cannot. Regime type does not preclude wealth. Countries can prosper regardless of whether they are ruled by one person, one party, or many parties. The richest countries in the world grew rich over centuries in which their governments evolved from monarchy to democracy and sometimes back again. Even today several of the world’s wealthy democracies are better described as republics or oligarchies. Chart 1China Outperformed Communism But Not Liberal Democracy The rule of one person, or autocracy, is not necessarily bad for economic growth. For every Kim Il Sung of North Korea there is a Lee Kuan Yew of Singapore. But authority based on a single person often expires with that person and rarely survives his grandchild. In China, Chairman Mao Zedong’s death occasioned a power struggle. Deng Xiaoping’s attempts to step down led to popular unrest that threatened the Communist Party’s rule on two separate occasions in the 1980s. The rule of a single party is thought to be more sustainable. Japan and Singapore are effectively single-party states and the wealthiest countries in Asia. They are democracies with leadership rotation and a popular voice in national affairs. And yet South Korea’s boom times occurred under single-party military rule. The same goes for the renegade province of Taiwan. Only around the time these two reached about $11,000-$14,000 GDP per capita did they evolve into multi-party democracies – though their wealth grew rapidly in the wake of that transition. China and soon Vietnam will test whether non-democratic, single-party rule can persist beyond the middle-income economic status that brought about democratic transition in Taiwan (Chart 1). Vietnam and Taiwan are the closest communist and non-communist governing systems, respectively, to mainland China. Insofar as China and Vietnam succeed at catching up with Taiwan it will be for reasons other than Marxist-Leninist ideology. Most communist systems have failed. At the height of international communism in the twentieth century there were 44 states ruled by communist parties; today there are five. China and Vietnam are the rare examples of communist states that not only survived the Soviet Union’s fall but also unleashed market forces and prospered (Chart 2). North Korea survived in squalor; Cuba’s experience is mixed. States that close off their economies do not have a good record of generating wealth. Closed economies lack competition and investment, struggle with stagflation, and often succumb to corruption and political strife. Openness seems to be a more diagnostic variable than government type or ideology, given the prosperity of democratic Japan and non-democratic China. Has the CPC performed better than other communist regimes? Arguably. It performs better than Vietnam but worse than Cuba on critical measures like infant mortality rates and life expectancy. Has it performed better than comparable non-communist regimes? Not really, though it is fast approaching Taiwan in all of these measures (Chart 3). Chart 2Communist States Get Rich By Compromising Their Communism Chart 3China Catching Up To Cuba On Basic Wellbeing What can be said for certain is that, since China’s 1979 reform and opening up, the CPC has avoided many errors and catastrophes. It survived the 1980s, 1990s, and 2000s without succumbing to international isolation, internal divisions, or economic crisis. It has drastically increased its share of global power (Table 1). Contrast this global ascent with the litany of mistakes and crises in the US since the year 2000. The CPC also managed the past decade relatively well despite the Chinese financial turmoil of 2015-16, the US trade war of 2018-19, and the COVID-19 pandemic. However, these events hint at greater challenges to come. China’s transition to a consumer-oriented economy has hardly begun. The struggle to manage systemic financial risk is intensifying today at risk to growth and stability (Chart 4). The trade war is simmering despite the Phase One trade deal and the change of party in the White House. And it is too soon to draw conclusions about the impact of the global pandemic, though China suppressed the virus more rapidly than other countries and led the world into recovery. Table 1China’s Global Rise After ‘Reform And Opening Up’ Chart 4China To Keep Struggling With Financial Instability Judging by the points above, there are two significant risks on the horizon. First, the CPC’s revival of neo-Maoist ideology, particularly the new economic mantra of self-reliance and “dual circulation” (import substitution), poses the risk of closing the economy and undermining productivity.2 Second, China’s sliding back into the rule of a single person – after the “consensus rule” that prevailed after Deng Xiaoping – increases the risk of unpredictable decision-making and a succession crisis whenever General Secretary Xi Jinping steps down. The party’s internal logic holds that China’s economic and geopolitical challenges are so enormous as to require a strongman leader at the helm of a single-party and centralized state. But because of the traditional problems with one-man rule, there is no guarantee that the country will remain as stable as it has been over the past 42 years. Slowing Growth Drives Clash With Foreign Powers Every major East Asian economy has enjoyed a “miracle” phase of growth – and every one of them has seen this phase come to an end. Now it is China’s turn. The country’s potential GDP growth is slowing as the population peaks, the labor force shrinks, wages rise, and companies outsource production to cheaper neighbors (Charts 5A & 5B). The Communist Party is attempting to reverse the collapse in the fertility rate by shifting from its historic “one Child policy,” which sharply reduced births. It shifted to a two-child policy in 2016 and a three-child policy in 2021 but the results have not been encouraging over the past five years. Chart 5AChina’s Demographic Decline Accelerating Chart 5BChina’s Demographic Decline Accelerating In the best case China’s growth will follow the trajectory of Taiwan and South Korea, which implies at most a 6% yearly growth rate over the next decade (Chart 6). This is not too slow but it will induce financial instability as well as hardship for overly indebted households, firms, and local governments. Chart 6China's Growth Rates Will Converge With Taiwan, South Korea The Communist Party’s legitimacy was not originally based on rapid economic growth but it came to be seen that way over the roaring decades of the 1980s through the 2000s. Thus when the Great Recession struck the party had to shift the party’s base of legitimacy. The new focus became quality of life, as marked by the Xi administration’s ongoing initiatives to cut back on corruption, pollution, poverty, credit excesses, and industrial overcapacity while increasing spending on health, education, and society (Chart 7). Chart 7China’s Fiscal Burdens Will Rise On Social Welfare Needs The party’s efforts to improve standards of living and consumer safety also coincided with an increase in propaganda, censorship, and repression to foreclose political dissent. The country falls far short in global governance indicators (Chart 8). Chart 8China Lags In Governance, Rule Of Law A second major new source of party legitimacy is nationalist foreign policy. China adopted a “more assertive” foreign and trade policy in the mid-2000s as its import dependencies ballooned. It helped that the US was distracted with wars of choice and financial crises. After the Great Recession the CPC’s foreign policy nationalism became a tool of generating domestic popular support amid slower economic growth. This was apparent in the clashes with Japan and other countries in the East and South China Seas in the early 2010s, in territorial disputes with India throughout the past decade, in political spats with Norway and most recently Australia, and in military showdowns over the Korean peninsula (2015-16) and today the Taiwan Strait (Chart 9). Chart 9Proxy Wars A Real Risk In China’s Periphery If China were primarily focused on foreign policy and global strategy then it would not provoke multiple neighbors on opposite sides of its territory at the same time. This is a good way to motivate the formation of a global balance-of-power coalition that can constrain China in the coming years. But China’s outward assertiveness is not driven primarily by foreign policy considerations. It is driven by the secular economic slowdown at home and the need to use nationalism to drum up domestic support. This is why China seems indifferent to offending multiple countries at once (like India and Australia) as well as more distant trade partners whom it “should be” courting rather than offending (like Europe). Such assertive foreign policy threatens to undermine quality of life, namely by provoking international protectionism and sanctions on trade and investment. The US is galvanizing a coalition of democracies to put pressure on China over its trade practices and human rights. The Asian allies are mostly in step with the US because they fear China’s growing clout. The European states do not have as much to fear from China’s military but they do fear China’s state-backed industry and technological rise. Europe’s elites also worry about anti-establishment political movements just like American elites and therefore are trying to win back the hearts and minds of the working class through a more proactive use of fiscal and industrial policy. This entails a more assertive trade policy. China has so far not adapted to the potential for a unified front among the democracies, other than through rhetoric. Thus the international horizon is darkening even as China’s growth rates shift downward. China’s Geopolitical Outlook Is Dimming China’s government has overcome a range of challenges and crises. The country takes an ever larger role in global trade despite its falling share of global population because of its productivity and competitiveness. The drop in China’s outward direct investment is tied to the global pandemic and may not mark a top, given that the country will still run substantial current account surpluses for the foreseeable future and will need to recycle these into natural resources and foreign production (Chart 10). However, the limited adoption of the renminbi as a reserve currency in the face of this formidable commercial power reveals the world’s reservations about Beijing’s ability to maintain macroeconomic stability, good governance, and peaceful foreign relations. Chart 10China's Rise Continues Chart 11China's Policy Uncertainty: A Structural Uptrend China is not in a position to alter the course of national policy dramatically prior to the Communist Party’s twentieth national congress in 2022. The Xi administration is focused on normalizing monetary and fiscal policy and heading off any sociopolitical disturbances prior to that critical event, in which General Secretary Xi Jinping, who was originally slated to step down at this time according to the old rules, may be anointed the overarching “chairman” position that Mao Zedong once held. The seventh generation of Chinese leaders will be promoted at this five-year rotation of the Central Committee and will further consolidate the Xi administration’s grip. It will also cement the party’s rotation back to leaders who have ideological educations, as opposed to the norm in the 1990s and early 2000s of promoting leaders with technocratic skills and scientific educations.3 This does not mean that President Xi will refuse to hold a summit with US President Biden in the coming months nor does it mean that US-China strategic and economic dialogue will remain defunct. But it does mean that Beijing is unlikely to make any major course correction until after the 2022 reshuffle – and even then a course correction is unlikely. China has taken its current path because the Communist Party fears the sociopolitical consequences of relinquishing economic control just as potential growth slows. The new ruling philosophy holds that the Soviet Union fell because of Mikhail Gorbachev’s glasnost and perestroika, not because openness and restructuring came too late. Moreover it is far from clear that the US, Europe, and other democratic allies will apply such significant and sustained pressure as to force China to change its overall strategy. America is still internally divided and its foreign policy incoherent; the EU remains reactive and risk-averse. China has a well-established set of strategic goals for 2035 and 2049, the 100th anniversary of the People’s Republic, and the broad outlines will not be abandoned. The implication is that tensions with the US and China’s Asian neighbors will persist. Rising policy uncertainty is a secular trend that will pick back up sooner rather than later (Chart 11), to the detriment of a stable and predictable investment environment. Chart 12Chinese Government’s Net Worth High But Hidden Liabilities Pose Risks Monetary and fiscal dovishness and a continued debt buildup are the obvious and necessary solutions to China’s combination of falling growth potential, rising social liabilities, the need to maintain the rapid military buildup in the face of geopolitical challenges. Sovereign countries can amass vast debts if they own their own debt and keep nominal growth above average bond yields. China’s government has a very favorable balance sheet when national assets are taken into consideration as well as liabilities, according to the IMF (Chart 12). On the other hand, China’s government is having to assume a lot of hidden liabilities from inefficient state-owned companies and local governments. In the short run there are major systemic financial risks even though in the long run Beijing will be able to increase its borrowing and bail out failing entities in order to maintain stability, just like Japan, the US, and Europe have had to do. The question for China is whether the social and political system will be able to handle major crises as well as the US and Europe have done, which is not that well. Investment Takeaways The rule of a single party is not a bar to economic success – but the rule of a single person is a liability due to the problem of succession. Marxism-Leninism is terrible for productivity unless it is compromised to allow for markets to operate, as in China and Vietnam. States that close their economies to the outside world usually atrophy. There is no compelling evidence that China’s Communist Party has performed better than a non-communist alternative would have done, given the province of Taiwan’s superior performance on most economic indicators. Since 1979, the Communist Party has avoided catastrophic errors. It has capitalized on domestic economic potential and a favorable international environment. Now, in the 2020s, both of these factors are changing for the worse. China’s “miracle” phase of growth has expired, as it did for other East Asian states before it. The maturation of the economy and slowdown of potential GDP have forced the Communist Party to shift the base of its political legitimacy to something other than rapid income growth: namely, quality of life and nationalist foreign policy. An aggressive foreign policy works against quality of life by provoking protectionism from foreign powers, particularly the United States, which is capable of leading a coalition of states to pressure China. The Communist Party’s policy trajectory is unlikely to change much through the twentieth national party congress in 2022. After that, a major course correction to improve relations with the West is conceivable, though we would not bet on it. Between 2021 and China’s 2035 and 2049 milestones, the Communist Party must navigate between rising socioeconomic pressures at home and rising geopolitical pressures abroad. An economic or political breakdown at home, or a total breakdown in relations with the US, could lead to proxy wars in China’s periphery, including but not limited to the Taiwan Strait. For now, global investors should favor the euro and US dollar over the renminbi (Chart 13). Chart 13Prefer The Dollar And Euro To The Renminbi Mainland investors should favor government bonds relative to stocks. Chinese stocks hit a major peak earlier this year and the government’s seizure of control over the tech sector is taking a toll. Investors should prefer developed market equities relative to Chinese equities until China’s current phase of policy tightening ends and there is at least a temporary improvement in relations with the United States. But investors should also prefer Chinese and Hong Kong stocks relative to Taiwanese due to the high risk of a diplomatic crisis and the tail risk of a war. Matt Gertken Vice President Geopolitical Strategy mattg@bcaresearch.com   Footnotes 1 The report concluded, “the emerging trends suggest a likely break from Deng's position toward heavier state intervention in the economy, more contentious relationships with neighbors, and a Party that rules primarily through ideology and social control.” Co-written with Jennifer Richmond, "China and the End of the Deng Dynasty," Stratfor, April 19, 2011, worldview.stratfor.com. 2 The Xi administration’s new concept of “dual circulation” entails that state policy will encourage the domestic economy whereas the international economy will play a secondary role. This is a reversal of the outward and trade-oriented economic model under Deng Xiaoping. See “Xi: China’s economy has potential to maintain long-term stable development,” November 4, 2020, news.cgtn.com. 3 See Willy Wo-Lap Lam, "China’s Seventh-Generation Leadership Emerges onto the Stage," Jamestown Foundation, China Brief 19:7, April 9, 2019, Jamestown.org.

Highlights Geopolitical risk is trickling back into financial markets. China’s fiscal-and-credit impulse collapsed again. The Global Economic Policy Uncertainty Index is ticking back up after the sharp drop from 2020. All of our proprietary GeoRisk Indicators are elevated or rising. Geopolitical risk often rises during bull markets – the Geopolitical Risk Index can even spike without triggering a bear market or recession. Nevertheless a rise in geopolitical risk is positive for the US dollar, which happens to stand at a critical technical point. The macroeconomic backdrop for the dollar is becoming less bearish given China’s impending slowdown. President Biden’s trip to Europe and summit with Russian President Vladimir Putin will underscore a foreign policy of forming a democratic alliance to confront Russia and China, confirming the secular trend of rising geopolitical risk. Shift to a defensive tactical position. Feature Back in March 2017 we wrote a report, “Donald Trump Is Who We Thought He Was,” in which we reaffirmed our 2016 view that President Trump would succeed in steering the US in the direction of fiscal largesse and trade protectionism. Now it is time for us to do the same with President Biden. Our forecast for Biden rested on the same points: the US would pursue fiscal profligacy and mercantilist trade policy. The recognition of a consistent national policy despite extreme partisan divisions is a testament to the usefulness of macro analysis and the geopolitical method. Trump stole the Democrats’ thunder with his anti-austerity and anti-free trade message. Biden stole it back. It was the median voter in the Rust Belt who was calling the shots all along (after all, Biden would still have won the election without Arizona and Georgia). We did make some qualifications, of course. Biden would maintain a hawkish line on China and Russia but he would reject Trump’s aggressive foreign and trade policy when it came to US allies.1 Biden would restore President Obama’s policy on Iran and immigration but not Russia, where there would be no “diplomatic reset.” And Biden’s fiscal profligacy, unlike Trump’s, would come with tax hikes on corporations and the wealthy … even though they would fall far short of offsetting the new spending. This is what brings us to this week’s report: New developments are confirming this view of the Biden administration. Geopolitical Risk And Bull Markets Chart 1Global Geopolitical Risk And The Dollar In recent weeks Biden has adopted a hawkish policy on China, lowered tensions with Europe, and sought to restore President Obama’s policy of détente with Iran. The jury is still out on relations with Russia – Biden will meet with Putin on June 16 – but we do not expect a 2009-style “reset” that increases engagement. Still, it is too soon to declare a “Biden doctrine” of foreign policy because Biden has not yet faced a major foreign crisis. A major test is coming soon. Biden’s decision to double down on hawkish policy toward China will bring ramifications. His possible deal with Iran faces a range of enemies, including within Iran. His reduction in tensions with Russia is not settled yet. While the specific source and timing of his first major foreign policy crisis is impossible predict, structural tensions are rebuilding. An aggregate of our 13 market-based GeoRisk indicators suggests that global political risk is skyrocketing once again. A sharp spike in the indicator, which is happening now, usually correlates with a dollar rally (Chart 1). This indicator is mean-reverting since it measures the deviation of emerging market currencies, or developed market equity markets, from underlying macroeconomic fundamentals. The implication is positive for the dollar, although the correlation is not always positive. Looking at both the DXY’s level and its rate of change shows periods when the global risk indicator fell yet the dollar stayed strong – and vice versa. The big increase in the indicator over the past week stems mostly from Germany, South Korea, Brazil, and Australia, though all 13 of the indicators are now either elevated or rising, including the China/Taiwan indicators. Some of the increase is due to base effects. As global exports recover, currencies and equities that we monitor are staying weaker than one would expect. This causes the relevant BCA GeoRisk indicator to rise. Base effects from the weak economy in June 2020 will fall out in coming weeks. But the aggregate shows that all of the indicators are either high or rising and, on a country by country level, they are now in established uptrends even aside from base effects. Chart 2Global Policy Uncertainty Revives Meanwhile the global Economic Policy Uncertainty Index is recovering across the world after the drop in uncertainty following the COVID-19 crisis (Chart 2). Policy uncertainty is also linked to the dollar and this indicator shows that it is rising on a secular basis. The Geopolitical Risk Index, maintained by Matteo Iacoviello and a group of academics affiliated with the Policy Uncertainty Index, is also in a secular uptrend, although cyclically it has not recovered from the post-COVID drop-off. It is sensitive to traditional, war-linked geopolitical risk as reported in newspapers. By contrast our proprietary indicators are sensitive to market perceptions of any kind of risk, not just political, both domestic and international. A comparison of the Geopolitical Risk Index with the S&P 500 over the past century shows that a geopolitical crisis may occur at the beginning of a business cycle but it may not be linked with a recession or bear market. Risk can rise, even extravagantly, during economic expansions without causing major pullbacks. But a crisis event certainly can trigger a recession or bear market, particularly if it is tied to the global oil supply, as in the early 1970s, 1980s, and 1990s (Chart 3). Chart 3Secular Rise In Geopolitical Risk Soon To Reassert Itself While geopolitical risk is normally positive for the dollar, the macroeconomic backdrop is negative. The dollar’s attempt to recover earlier this year faltered. This underlying cyclical bearish dollar trend is due to global economic recovery – which will continue – and extravagant American monetary expansion and budget deficits. This is why we have preferred gold – it is a hedge against both geopolitical risk and inflation expectations. Tactically this year we have refrained from betting against the dollar except when building up some safe-haven positions like Japanese yen. Over the medium and long term we expect geopolitical risk to put a floor under the greenback. The bottom line is that the US dollar is at a critical technical crossroads where it could break out or break down. Macro factors suggest a breakdown but the recovery of global policy uncertainty and geopolitical risk suggests the opposite. We remain neutral. A final quantitative indicator of the recovery of geopolitical risk is the performance of global aerospace and defense stocks (Chart 4). Defense shares are rising in absolute and relative terms. Chart 4Another Sign Of Geopolitical Risk: Defense Stocks Outperform As Virus Ebbs And Military Spending Surges Can The WWII Peace Be Prolonged? Qualitative assessments of geopolitical risk are necessary to explain why risk is on a secular upswing – why drops in the quantitative indicators are temporary and the troughs keep getting higher. Great nations are returning to aggressive competition after a period of relative peace and prosperity. Over the past two decades Russia and China took advantage of America’s preoccupations with the Middle East, the financial crisis, and domestic partisanship in order to build up their global influence. The result is a world in which authority is contested. The current crisis is not merely about the end of the post-Cold War international order. It is much scarier than that. It is about the decay of the post-WWII international order and the return of the centuries-long struggle for global supremacy among Great Powers. The US and European political establishments fear the collapse of the WWII settlement in the face of eroding legitimacy at home and rising challenges from abroad. The 1945 peace settlement gave rise to both a Cold War and a diplomatic system, including the United Nations Security Council, for resolving differences among the great powers. It also gave rise to European integration and various institutions of American “liberal hegemony.” It is this system of managing great power struggle, and not the post-Cold War system of American domination, that lies in danger of unraveling. This is evident from the following points: American preeminence only lasted fifteen years, or at best until the 2008 Georgia war and global financial crisis. The US has been an incoherent wild card for at least 13 years now, almost as long as it was said to be the global empire. Russian antagonism with the West never really ended. In retrospect the 1990s were a hiatus rather than a conclusion of this conflict. China’s geopolitical rise has thawed the frozen conflicts in Asia from the 1940s-50s – i.e. the Chinese civil war, the Hong Kong and Taiwan Strait predicaments, the Korean conflict, Japanese pacifism, and regional battles for political influence and territory. Europe’s inward focus and difficulty projecting power have been a constant, as has its tendency to act as a constraint on America. Only now is Europe getting closer to full independence (which helped trigger Brexit). Geopolitical pressures will remain historically elevated for the foreseeable future because the underlying problem is whether great power struggle can be contained and major wars can be prevented. Specifically the question is whether the US can accommodate China’s rise – and whether China can continue to channel its domestic ambitions into productive uses (i.e. not attempts to create a Greater Chinese and then East Asian empire). The Great Recession killed off the “East Asia miracle” phase of China’s growth. Potential GDP is declining, which undermines social stability and threatens the Communist Party’s legitimacy. The renminbi is on a downtrend that began with the Xi Jinping era. The sharp rally during the COVID crisis is over, as both domestic and international pressures are rising again (Chart 5). Chart 5Biden Administration Review Of China Policy: More China Bashing While the data for China’s domestic labor protests is limited in extent, we can use it as a proxy for domestic instability in lieu of official statistics that were tellingly discontinued back in 2005. The slowdown in credit growth and the cyclical sectors of the economy suggest that domestic political risk is underrated in the lead up to the 2022 leadership rotation (Chart 6). Chart 6China's Domestic Political Risk Will Rise Chart 7Steer Clear Of Taiwan Strait The increasing focus on China’s access to key industrial and technological inputs, the tensions over the Taiwan Strait, and the formation of a Russo-Chinese bloc that is excluded from the West all suggest that the risk to global stability is grave and historic. It is reminiscent of the global power struggles of the seventeenth through early twentieth centuries. The outperformance of Taiwanese equities from 2019-20 reflects strong global demand for advanced semiconductors but the global response to this geopolitical bottleneck is to boost production at home and replace Taiwan. Therefore Taiwan’s comparative advantage will erode even as geopolitical risk rises (Chart 7). The drop in geopolitical tensions during COVID-19 is over, as highlighted above. With the US, EU, and other countries launching probes into whether the virus emerged from a laboratory leak in China – contrary to what their publics were told last year – it is likely that a period of national recriminations has begun. There is a substantial risk of nationalism, xenophobia, and jingoism emerging along with new sources of instability. An Alliance Of Democracies The Biden administration’s attempt to restore liberal hegemony across the world requires a period of alliance refurbishment with the Europeans. That is the purpose of his current trip to the UK, Belgium, and Switzerland. But diplomacy only goes so far. The structural factor that has changed is the willingness of the West to utilize government in the economic sphere, i.e. fiscal proactivity. Infrastructure spending and industrial policy, at the service of national security as well as demand-side stimulus, are the order of the day. This revolution in economic policy – a return to Big Government in the West – poses a threat to the authoritarian powers, which have benefited in recent decades by using central strategic planning to take advantage of the West’s democratic and laissez-faire governance. If the West restores a degree of central government – and central coordination via NATO and other institutions – then Beijing and Moscow will face greater pressure on their economies and fewer strategic options. About 16 American allies fall short of the 2% of GDP target for annual defense spending – ranging from Italy to Canada to Germany to Japan. However, recent trends show that defense spending did indeed increase during the Trump administration (Chart 8). Chart 8NATO Boosts Defense Spending The European Union as a whole has added $50 billion to the annual total over the past five years. A discernible rise in defense spending is taking place even in Germany (Chart 9). The same point could be made for Japan, which is significantly boosting defense spending (as a share of output) after decades of saying it would do so without following through. A major reason for the American political establishment’s rejection of President Trump was the risk he posed to the trans-Atlantic alliance. A decline in NATO and US-EU ties would dramatically undermine European security and ultimately American security. Hence Biden is adopting the Trump administration’s hawkish approach to trade with China but winding down the trade war with Europe (Chart 10). Chart 9Europe Spending More On Guns Chart 10US Ends Trade War With Europe? A multilateral deal aimed at setting a floor in global corporate taxes rates is intended to prevent the US and Europe from undercutting each other – and to ensure governments have sufficient funding to maintain social spending and reduce income inequality (Chart 11). Inequality is seen as having vitiated sociopolitical stability and trust in government in the democracies. Chart 11‘Global’ Corporate Tax Deal Shows Return Of Big Government, Attempt To Reduce Inequality In The West Risks To Biden’s Diplomacy It is possible that Biden’s attempt to restore US alliances will go nowhere over the course of his four-year term in office. The Europeans may well remain risk averse despite their initial signals of willingness to work with Biden to tackle China’s and Russia’s challenges to the western system. The Germans flatly rejected both Biden and Trump on the Nord Stream II natural gas pipeline linkage with Russia, which is virtually complete and which strengthens the foundation of Russo-German engagement (more on this below). The US’s lack of international reliability – given the potential of another partisan reversal in four years – makes it very hard for countries to make any sacrifices on behalf of US initiatives. The US’s profound domestic divisions have only slightly abated since the crises of 2020 and could easily flare up again. A major outbreak of domestic instability could distract Biden from the foreign policy game.2 However, American incapacity is a risk, not our base case, over the coming years. We expect the US economic stimulus to stabilize the country enough that the internal political crisis will be contained and the US will continue to play a global role. The “Civil War Lite” has mostly concluded, excepting one or two aftershocks, and the US is entering into a “Reconstruction Lite” era. The implication is negative for China and Russia, as they will now have to confront an America that, if not wholly unified, is at least recovering. Congress’s impending passage of the Innovation and Competition Act – notably through regular legislative order and bipartisan compromise – is case in point. The Senate has already passed this approximately $250 billion smorgasbord of industrial policy, supply chain resilience, and alliance refurbishment. It will allot around $50 billion to the domestic semiconductor industry almost immediately as well as $17 billion to DARPA, $81 billion for federal research and development through the National Science Foundation, which includes $29 billion for education in science, technology, engineering, and mathematics, and other initiatives (Table 1). Table 1Peak Polarization: US Congress Passes Bipartisan ‘Innovation And Competition Act’ To Counter China With the combination of foreign competition, the political establishment’s need to distract from domestic divisions, and the benefit of debt monetization courtesy of the Federal Reserve, the US is likely to achieve some notable successes in pushing back against China and Russia. On the diplomatic front, the US will meet with some success because the European and Asian allies do not wish to see the US embrace nationalism and isolationism. They have their own interests in deterring Russia and China. Lack Of Engagement With Russia Russian leadership has dealt with the country’s structural weaknesses by adopting aggressive foreign policy. At some point either the weaknesses or the foreign policy will create a crisis that will undermine the current regime – after all, Russia has greatly lagged the West in economic development and quality of life (Chart 12). But President Putin has been successful at improving the country’s wealth and status from its miserably low base in the 1990s and this has preserved sociopolitical stability so far. Chart 12Russia's Domestic Political Risk It is debatable whether US policy toward Russia ever really changed under President Trump, but there has certainly not been a change in strategy from Russia. Thus investors should expect US-Russia antagonism to continue after Biden’s summit with Putin even if there is an ostensible improvement. The fundamental purpose of Putin’s strategy has been to salvage the Russian empire after the Soviet collapse, ensure that all world powers recognize Russia’s veto power over major global policies and initiatives, and establish a strong strategic position for the coming decades as Russia’s demographic decline takes its toll. A key component of the strategy has been to increase economic self-sufficiency and reduce exposure to US sanctions. Since the invasion of Ukraine in 2014, Putin has rapidly increased Russia’s foreign exchange reserves so as to buffer against shocks (Chart 13). Chart 13Russia Fortified Against US Sanctions Putin has also reduced Russia’s reliance on the US dollar to about 22% (Chart 14), primarily by substituting the euro and gold. Russia will not be willing or able to purge US dollars from its system entirely but it has been able to limit America’s ability to hurt Russia by constricting access to dollars and the dollar-based global financial architecture. Russian Finance Minister Anton Siluanov highlighted this process ahead of the Biden-Putin summit by declaring that the National Wealth Fund will divest of its remaining $40 billion of its US dollar holdings. Chart 14Russia Diversifies From USD In general this year, Russia is highlighting its various advantages: its resilience against US sanctions, its ability to re-invade Ukraine, its ability to escalate its military presence in Belarus and the Black Sea, and its ability to conduct or condone cyberattacks on vital American food and fuel supplies (Chart 15). Meanwhile the US is suffering from deep political divisions at home and strategic incoherence abroad and these are only starting to be mended by domestic economic stimulus and alliance refurbishment. Chart 15Cyber Security Stocks Recover Europe’s risk-aversion when it comes to strategic confrontation with Russia, and the lack of stability in US-Russia relations, means that investors should not chase Russian currency or financial assets amid the cyclical commodity rally. Investors should also expect risk premiums to remain high in developing European economies relative to their developed counterparts. This is true despite the fact that developed market Europe’s outperformance relative to emerging Europe recently peaked and rolled over. From a technical perspective this outperformance looks to subside but geopolitical tensions can easily escalate in the near term, particularly in advance of the Russian and German elections in September (Chart 16). Chart 16Developed Markets In Europe Will Outperform Emerging Europe Unless Russian Geopolitical Risk Abates Developed Europe trades in line with EUR-RUB and these pair trades all correspond closely to geopolitical tensions with Russia (Chart 17). A notable exception is the UK, whose stock market looks attractive relative to eastern Europe and is much more secure from any geopolitical crisis in this region (Chart 17, bottom panel). The pound is particularly attractive against the Czech koruna, as Russo-Czech tensions have heated up in advance of October’s legislative election there (Chart 18). Chart 17Long UK Versus Eastern Europe Chart 18Long GBP Versus CZK Meanwhile Russia and China have grown closer together out of strategic necessity. Germany’s Election And Stance Toward Russia Germany’s position on Russia is now critical. The decision to complete the Nord Stream II pipeline against American wishes either means that the Biden administration can be safely ignored – since it prizes multilateralism and alliances above all things and is therefore toothless when opposed – or it means that German will aim to compensate the Americans in some other area of strategic concern. Washington is clearly attempting to rally the Germans to its side with regard to putting pressure on China over its trade practices and human rights. This could be the avenue for the US and Germany to tighten their bond despite the new milestone in German-Russia relations. The US may call on Germany to stand up for eastern Europe against Russian aggression but on that front Berlin will continue to disappoint. It has no desire to be drawn into a new Cold War given that the last one resulted in the partition of Germany. The implication is negative for China on one hand and eastern Europe on the other. Germany’s federal election on September 26 will be important because it will determine who will succeed Chancellor Angela Merkel, both in Germany and on the European and global stage. The ruling Christian Democratic Union (CDU) is hoping to ride Merkel’s coattails to another term in charge of the government. But they are likely to rule alongside the Greens, who have surged in opinion polls in recent years. The state election in Saxony-Anhalt over the weekend saw the CDU win 37% of the popular vote, better than any recent result, while Germany’s second major party, the Social Democrats, continued their decline (Table 2). The far-right Alternative for Germany won 21% of the vote, a downshift from 2016, while the Greens won 6% of the vote, a slight improvement from 2016. All parties underperformed opinion polling except the CDU (Chart 19). Table 2Saxony-Anhalt Election Results Chart 19Germany: Conservatives Outperform In Final State Election Before Federal Vote, But Face Challenges Chart 20Germany: Greens Will Outperform in 2021 Vote The implication is still not excellent for the CDU. Saxony-Anhalt is a middling German state, a CDU stronghold, and a state with a popular CDU leader. So it is not representative of the national campaign ahead of September. The latest nationwide opinion polling puts the CDU at around 25% support. They are neck-and-neck with the Greens. The country’s left- and right-leaning ideological blocs are also evenly balanced in opinion polls (Chart 20). A potential concern for the CDU is that the Free Democratic Party is ticking up in national polls, which gives them the potential to steal conservative votes. Betting markets are manifestly underrating the chance that Annalena Baerbock and the Greens take over the chancellorship (Charts 21A and 21B). We still give a subjective 35% chance that the Greens will lead the next German government without the CDU, a 30% that the Greens will lead with the CDU, and a 25% chance that the CDU retains power but forms a coalition with the Greens. A coalition government would moderate the Greens’ ambitious agenda of raising taxes on carbon emissions, wealth, the financial sector, and Big Tech. The CDU has already shifted in a pro-environmental, fiscally proactive direction. Chart 21AGerman Greens Will Recover Chart 21BGerman Greens Still Underrated No matter what the German election will support fiscal spending and European solidarity, which is positive for the euro and regional equities over the next 12 to 24 months. However, the Greens would pursue a more confrontational stance toward Russia, a petro-state whose special relations with the German establishment have impeded the transition to carbon neutrality. Latin America’s Troubles A final aspect of Biden’s agenda deserves some attention: immigration and the Mexican border. Obviously this one of the areas where Biden starkly differs from Trump, unlike on Europe and China, as mentioned above. Vice President Kamala Harris recently came back from a trip to Guatemala and Mexico that received negative media attention. Harris has been put in charge of managing the border crisis, the surge in immigrant arrivals over 2020-21, both to give her some foreign policy experience and to manage the public outcry. Despite telling immigrants explicitly “Do not come,” Harris has no power to deter the influx at a time when the US economy is fired up on historic economic stimulus and the Democratic Party has cut back on all manner of border and immigration enforcement. From a macro perspective the real story is the collapse of political and geopolitical risk in Mexico. From 2016-20 Mexico faced a protectionist onslaught from the Trump administration and then a left-wing supermajority in Congress. But these structural risks have dissipated with the USMCA trade deal and the inability of President Andrés Manuel López Obrador to follow through with anti-market reforms, as we highlighted in reports in October and April. The midterm election deprived the ruling MORENA party of its single-party majority in the Chamber of Deputies, the lower house of the legislature (Chart 22). AMLO is now politically constrained – he will not be able to revive state control over the energy and power sectors. Chart 22Mexican Midterm Election Constrained Left-Wing Populism, Political Risk Chart 23Buy Mexico (And Canada) On US Stimulus American monetary and fiscal stimulus, and the supply-chain shift away from China, also provide tailwinds for Mexico. In short, the Mexican election adds the final piece to one of our key themes stemming from the Biden administration, US populism, and US-China tensions: favor Mexico and Canada (Chart 23). A further implication is that Mexico should outperform Brazil in the equity space. Brazil is closely linked to China’s credit cycle and metals prices, which are slated to turn down as a result of Chinese policy tightening. Mexico is linked to the US economy and oil prices (Chart 24). While our trade stopped out at -5% last week we still favor the underlying view. Brazilian political risk and unsustainable debt dynamics will continue to weigh on the currency and equities until political change is cemented in the 2022 election and the new government is then forced by financial market riots into undertaking structural reforms. Chart 24Brazil's Troubles Not Truly Over - Mexico Will Outperform Elsewhere in Latin America, the rise of a militant left-wing populist to the presidency in a contested election in Peru, and the ongoing social unrest in Colombia and Chile, are less significant than the abrupt slowdown in China’s credit growth (Charts 25A and 25B). According to our COVID-19 Social Stability Index, investors should favor Mexico. Turkey, the Philippines, South Africa, Colombia, and Brazil are the most likely to see substantial social instability according to this ranking system (Table 3). Chart 25AMexico To Outperform Latin America Chart 25BChina’s Slowdown Will Hit South America Table 3Post-COVID Emerging Market Social Unrest Only Just Beginning Investment Takeaways Close long emerging markets relative to developed markets for a loss of 6.8% – this is a strategic trade that we will revisit but it faces challenges in the near term due to China’s slowdown (Chart 26). Go long Mexican equities relative to emerging markets on a strategic time frame. Our long Mexico / short Brazil trade hit the stop loss at 5% but the technical profile and investment thesis are still sound over the short and medium term. Chart 26China Slowdown, Geopolitical Risk Will Weigh On Emerging Markets Chart 27Relative Uncertainty And Safe Havens China’s sharp fiscal-and-credit slowdown suggests that investors should reduce risk exposure, take a defensive tactical positioning, and wait for China’s policy tightening to be priced before buying risky assets. Our geopolitical method suggests the dollar will rise, while macro fundamentals are becoming less dollar-bearish due to China. We are neutral for now and will reassess for our third quarter forecast later this month. If US policy uncertainty falls relative to global uncertainty then the EUR-USD will also fall and safe-haven assets like Swiss bonds will gain a bid (Chart 27). Gold is an excellent haven amid medium-term geopolitical and inflation risks but we recommend closing our long silver trade for a gain of 4.5%. Disfavor emerging Europe relative to developed Europe, where heavy discounts can persist due to geopolitical risk premiums. We will reassess after the Russian Duma election in September. Go long GBP-CZK. Close the Euro “laggards” trade. Go long an equal-weighted basket of euros and US dollars relative to the Chinese renminbi. Short the TWD-USD on a strategic basis. Prefer South Korea to Taiwan – while the semiconductor splurge favors Taiwan, investors should diversify away from the island that lies at the epicenter of global geopolitical risk. Close long defense relative to cyber stocks for a gain of 9.8%. This was a geopolitical “back to work” trade but the cyber rebound is now significant enough to warrant closing this trade.   Matt Gertken Vice President Geopolitical Strategy mattg@bcaresearch.com Footnotes 1 Trump’s policy toward Russia is an excellent example of geopolitical constraints. Despite any personal preferences in favor of closer ties with Russia, Trump and his administration ultimately reaffirmed Article 5 of NATO, authorized the sale of lethal weapons to Ukraine, and deployed US troops to Poland and the Czech Republic. 2 As just one example, given the controversial and contested US election of 2020, it is possible that a major terrorist attack could occur. Neither wing of America’s ideological fringes has a monopoly on fanaticism and violence. Meanwhile foreign powers stand to benefit from US civil strife. A truly disruptive sequence of events in the US in the coming years could lead to greater political instability in the US and a period in which global powers would be able to do what they want without having to deal with Biden’s attempt to regroup with Europe and restore some semblance of a global police force. The US would fall behind in foreign affairs, leaving power vacuums in various regions that would see new sources of political and geopolitical risk crop up. Then the US would struggle to catch up, with another set of destabilizing consequences.

Highlights President Biden has called for the US intelligence community to investigate the origins of COVID-19 and one of Biden’s top diplomats has stated the obvious: the era of “engagement” with China is over. This clinches our long-held view that any Democratic president would be a hawk like President Trump. The US-China conflict – and global geopolitical risk – will revive and undermine global risk appetite. China faces a confluence of geopolitical and macroeconomic challenges, suggesting that its equity underperformance will continue. Domestic Chinese investors should stay long government bonds. Foreign investors should sell into the bond rally to reduce exposure to any future sanctions. The impending agreement of a global minimum corporate tax rate has limited concrete implications that are not already known but it symbolizes the return of Big Government in the western world. Our updated GeoRisk Indicators are available in the Appendix, as well as our monthly geopolitical calendar. Feature In our quarterly webcast, “Geopolitics And Bull Markets,” we argued that geopolitical themes matter to investors when they have a demonstrable relationship with the macroeconomic backdrop. When geopolitics and macro are synchronized, a simple yet powerful investment thesis can be discerned. The US war on terror, Russia’s resurgence, the EU debt crisis, and Brexit each provided cases in which a geopolitically informed macro view was both accessible and actionable at an early stage. Investors generally did well if they sold the relevant country’s currency and disfavored its equities on a relative basis. Chart 1China's Decade Of Troubles Of course, the market takeaway is not always so clear. When geopolitics and macroeconomics are desynchronized, the trick is to determine which framework will prevail over the financial markets and for how long. Sometimes the market moves to its own rhythm. The goal is not to trade on geopolitics but rather to invest with geopolitics. One of our key views for this year – headwinds for China – is an example of synchronization. Two weeks ago we discussed China’s macroeconomic challenge. In this report we discuss China’s foreign policy challenge: geopolitical pressure from the US and its allies. In particular we address President Biden’s call for a deeper intelligence dive into the origins of COVID-19. The takeaway is negative for China’s currency and risk assets. The Great Recession dealt a painful blow to the Chinese version of the East Asian economic miracle. By 2015, China’s financial turmoil and currency devaluation should have convinced even bullish investors to keep their distance from Chinese stocks and the renminbi. If investors stuck with this bearish view despite the post-2016 rally, on fear of trade war, they were rewarded in 2018-19. Only with China’s containment of COVID-19 and large economic stimulus in 2020 has CNY-USD threatened to break out (Chart 1). We expect the renminbi to weaken anew, especially once the Fed begins to taper asset purchases. Our cyclical view is still bullish but US-China relations are unstable so we remain tactically defensive. Forget Biden’s China Review, He’s A Hawk Chinese financial markets face a host of challenges this year, despite the positive factors for China’s manufacturing sector amid the global recovery. At home these challenges consist of a structural economic slowdown, a withdrawal of policy stimulus, bearish sentiment among households, and an ongoing government crackdown on systemic risk. Abroad the Democratic Party’s return to power in Washington means that the US will bring more allies to bear in its attempt to curb China’s rise. This combination of factors presents a headwind for Chinese equities and a tailwind for government bonds (Chart 2). This is true at least until the government should hit its pain threshold and re-stimulate. Chart 2Global Investors Still Wary New stimulus may not occur in 2022. The Communist Party’s leadership rotation merely requires economic stability, not rapid growth. While the central government has a record of stimulating when its pain threshold is hit, even under the economically hawkish President Xi Jinping, a financial market riot is usually part of this threshold. This implies near-term downside, particularly for global commodities and metals, which are also facing a Chinese regulatory backlash to deter speculation. In this context, President Biden’s call for a deeper US intelligence investigation into the origin of COVID-19 is an important confirming signal of the US’s hawkish turn toward China. Biden gave 90 days for the intelligence community to report back to him. We will not enter into the debate about COVID-19’s origins. From a geopolitical point of view it is a moot point. The facts of the virus origin may never be established. According to Biden’s statement, at least one US intelligence agency believes the “lab leak theory” is the most likely source of the virus (while two other agencies decided in favor of animal-to-human transmission). Meanwhile Chinese government spokespeople continue to push the theory that the virus originated at the US’s Fort Detrick in Maryland or at a US-affiliated global research center. What is certain is that the first major outbreak of a highly contagious disease occurred in Wuhan. Both sides are demanding greater transparency and will reject each other’s claims based on a lack of transparency. If the US intelligence report concludes that COVID originated from the Wuhan Institute of Virology, the Chinese government and media will reject the report. If the report exonerates the Wuhan laboratory, at least half of the US public will disbelieve it and it will not deter Biden from drawing a hard line on more macro-relevant policy disputes with China. The US’s hawkish bipartisan consensus on China took shape before COVID. Biden’s decision to order the fresh report introduces skepticism regarding the World Health Organization’s narrative, which was until now the mainstream media’s narrative. Previously this skepticism was ghettoized in US public discourse: indeed, until Biden’s announcement on May 26, the social media company Facebook suppressed claims that the virus came from a lab accident or human failure. Thus Biden’s action will ensure that a large swathe of the American public will always tend to support this theory regardless of the next report’s findings. At the same time Biden discontinued a State Department effort to prove the lab leak theory, which shows that it is not a foregone conclusion what his administration will decide. The good news is that even if the report concluded in favor of the lab leak, the Biden administration would remain highly unlikely to demand that China pay “reparations,” like the Trump administration demanded in 2020. This demand, if actualized, would be explosive. The bad news is that a future nationalist administration could conceivably use the investigation as a basis to demand reparations. Nationalism is a force to be reckoned with in both countries and the dispute over COVID’s origin will exacerbate it. Traditionally the presidents of both countries would tamp down nationalism or attempt to keep it harnessed. But in the post-Xi, post-Trump era it is harder to control. The death toll of COVID-19 will be a permanent source of popular grievance around the world and a wedge between the US and China (Chart 3). China’s international image suffered dramatically in 2020. So far in 2021 China has not regained any diplomatic ground. Chart 3Death Toll Of COVID-19 The US is repairing its image via a return to multilateralism while the Europeans have put their Comprehensive Agreement on Investment with China on hold due to a spat over sanctions arising from western accusations of genocide (a subject on which China pointedly answered that it did not need to be lectured by Europeans). Notably Biden’s Department of State also endorsed its predecessor’s accusation of genocide in Xinjiang. Any authoritative US intelligence review that solidifies doubts about the WHO’s initial investigation – even if it should not affirm the lab leak theory – would give Biden more ammunition in global opinion to form a democratic alliance to pressure China (for example, in Europe). An important factor that enables the US to remain hawkish on China is fiscal stimulus. While stimulus helps bring about economic recovery, it also lowers the bar to political confrontation (Chart 4). Countries with supercharged domestic demand do not have as much to fear from punitive trade measures. The Biden administration has not taken new punitive measures against China but it is clearly not worried about Chinese retaliation. Chart 4Large Fiscal Stimulus Lowers The Bar To Geopolitical Conflict China’s stimulus is underrated in this chart (which excludes non-fiscal measures) but it is still true that China’s policy has been somewhat restrained and it will need to stimulate its economy again in response to any new punitive measures or any global loss of confidence. At least China is limited in its ability to tighten policy due to the threat of US pressure and western trade protectionism. Simultaneous with Biden’s announcement on COVID-19, his administration’s coordinator for Indo-Pacific affairs, Kurt Campbell, proclaimed in a speech that the era of “engagement” with China is officially over and the new paradigm is one of “competition.” By now Campbell is stating the obvious. But this tone is a change both from his tone while serving in President Obama’s Department of State and from his article in Foreign Affairs last year (when he was basically auditioning for his current role in the Biden administration).1 Campbell even said in his latest remarks that the Trump administration was right about the “direction” of China policy (though not the “execution”), which is candid. Campbell was speaking at Stanford University but his comments were obviously aimed for broader consumption. Investors no longer need to wait for the outcome of the Biden administration’s comprehensive review of policy toward China. The answer is known: the Biden administration’s hawkishness is confirmed. The Department of Defense report on China policy, due in June, is very unlikely to strike a more dovish posture than the president’s health policy. Now investors must worry about how rapidly tensions will escalate and put a drag on global sentiment. Bottom Line: US-China relations are unstable and pose an immediate threat to global risk appetite. The fundamental geopolitical assessment of US-China relations has been confirmed yet again. The US is seeking to constrain China’s rise because China is the only country capable of rivaling the US for supremacy in Asia and the world. Meanwhile China is rejecting liberalization in favor of economic self-sufficiency and maintaining an offensive foreign policy as it is wary of US containment and interference. Presidents Biden and Xi Jinping are still capable of stabilizing relations in the medium term but they are unlikely to substantially de-escalate tensions. And at the moment tensions are escalating. China’s Reaction: The Example Of Australia How will China respond to Biden’s new inquiry into COVID’s origins? Obviously Beijing will react negatively but we would not expect anything concrete to occur until the result of the inquiry is released in 90 days. China will be more constrained in its response to the US than it has been with Australia, which called for an international inquiry early last year, as the US is a superior power. Australia was the first to ban Chinese telecom company Huawei from its 5G network (back in 2018) and it was the first to call for a COVID probe. Relations between China and Australia have deteriorated steadily since then, but macro trends have clearly driven the Aussie dollar. The AUD-JPY exchange rate is a good measure for global risk appetite and it is wavering in recent weeks (Chart 5). Chart 5Australian Dollar Follows Macro Trends, Rallies Amid China Trade Spat Tensions have also escalated due to China’s dependency on Australian commodity exports at a time of spiking commodity prices. This is a recurring theme going back to the Stern Hu affair. The COVID spat led China to impose a series of sanctions against Australian beef, barley, wine, and coal. But because China cannot replace Australian resources (at least, not in the short term), its punitive measures are limited. It faces rising producer prices as a result of its trade restrictions (Chart 6). This dependency is a bigger problem for China today than it was in previous cycles so China will try to diversify. Chart 6Constraints On China's Tarrifs On Australia By contrast, China is not likely to impose sanctions on the US in response to Biden’s investigation, unless Biden attacks first. China’s imports from the US are booming and its currency is appreciating sharply. Despite Beijing’s efforts to keep the Phase One trade deal from collapsing, Biden is maintaining Trump’s tariffs and the US-China trade divorce is proceeding (Chart 7). Bilateral tariff rates are still 16-17 percentage points higher than they were in 2018, with US tariffs on China at 19% (versus 3% on the rest of the world) while Chinese tariffs on the US stand at 21% (versus 6% on the rest of the world). The Biden administration timed this week’s hawkish statements to coincide with the first meeting of US trade negotiators with China, which was a more civil affair. Both countries acknowledged that the relationship is important and trade needs to be continued. However, US Trade Representative Katherine Tai’s comments were not overly optimistic (she told Reuters that the relationship is “very, very challenging”). She has also been explicit about maintaining policy continuity with the Trump administration. We highly doubt that China’s share of US imports will ever surpass its pre-Trump peaks. The Biden administration has also refrained so far from loosening export controls on high-tech trade with China. This has caused a bull market in Taiwan while causing problems for Chinese semiconductor stocks’ relative performance (Chart 8). If Biden’s policy review does not lead to any relaxation of export controls on commercial items then it will mark a further escalation in tensions. Chart 7US Tarrifs Reduce China In Trade Deficit Bottom Line: Until Presidents Biden and Xi stabilize relations at the top, the trade negotiations over implementing the Phase One trade deal – and any new Phase Two talks – cannot bring major positive surprises for financial markets. Chart 8US Export Controls Amid Chip Shortage Congress Is More Hawkish Than Biden Biden’s ability to reduce frictions with China, should he seek to, will also be limited by Congress and public opinion. With the US deeply politically divided, and polarization at historically high levels, China has emerged as one of the few areas of agreement. The hawkish consensus is symbolized by new legislation such as the Strategic Competition Act, which is making its way through the Senate rapidly. Congress is also trying to boost US competitiveness through bills such as the Endless Frontier Act. These bills would subject China to scrutiny and potential punitive measures over a broad range of issues but most of all they would ignite US industrial policy , STEM education, and R&D, and diversify the US’s supply chains. We would highlight three key points with regard to the global impact of this legislation: Global supply chains are shifting regardless: This trend is fairly well established in tech, defense, and pharmaceuticals. It will continue unless we see a major policy reversal from China to try to court western powers and reduce frictions. The EU and India are less enthusiastic than the US and Australia about removing China from supply chains but they are not opposed. The EU Commission has recommended new defensive economic measures that cover supply chains in batteries, cloud services, hydrogen energy, pharmaceuticals, materials, and semiconductors. As mentioned, the EU is also hesitating to ratify the Comprehensive Agreement on Investment with China. Hence the EU is moving in the US’s direction independently of proposed US laws. After all, China’s rise up the tech value chain (and its decision to stop cutting back the size of its manufacturing sector) ultimately threatens the EU’s comparative advantage. The EU is also aligned with the US on democratic values and network security. India has taken a harder stance on China than usual, which marks an important break with the past. India’s decision to exclude Huawei from its 5G network is not final but it is likely to be at least partially implemented. A working group of democracies is forming regardless. The Strategic Competition Act calls for the creation of a working group of democracies but the truth is that this is already happening through more effective forums like the G7 and bilateral summits. Just as the implementation of the act would will ultimately depend on President Biden, so the willingness of other countries to adopt the recommendations of the working group would depend on their own executives. Allies have leeway as Biden will not use punitive measures against them: Any policy change from the EU, UK, India, and Australia will be independent of the US Congress passing the Strategic Competition Act. These countries will be self-directed. The US would have to devote diplomatic energy to maintaining a sustained effort by these states to counter China in the face of economic costs. This will be limited by the fact that the Biden administration will be very reluctant to impose punitive measures on allies to insist on their cooperation. The allies will set the pace of pressure on China rather than the United States. This gives the EU an important position, particularly Germany. And yet the trends in Germany suggest that the government will be more hawkish on China after the federal elections in September. Bottom Line: The Biden administration is unlikely to use punitive measures against allies so new US laws are less important than overall US diplomacy with each of the allies. Some allies will be less compliant with US policies given their need for trade with China. But so far there appears to be a common position taking shape even with the EU that is prejudicial to China’s involvement in key sectors of emerging technologies. If China does not respond by reducing its foreign policy assertiveness, then China’s economic growth will suffer. That drag would have to be offset by new supply chain construction in Southeast Asia and other countries. Investment Takeaways The foregoing highlights the international risks facing China even at a time when its trend growth is slowing (Chart 9) and its ongoing struggle with domestic financial imbalances is intensifying. China’s debt-service costs have risen sharply and Beijing is putting pressure on corporations and local governments to straighten out their finances (Chart 10), resulting in a wave of defaults. This backdrop is worrisome for investors until policymakers reassure them that government support will continue. Chart 9China's Growth Potential Slowing Chart 10China's Leaders Struggle With Debt China’s domestic stability is a key indicator of whether geopolitical risks could spiral out of control. In particular we think aggressive action in the Taiwan Strait is likely to be delayed as long as the Chinese economy and regime are stable. China has rattled sabers over the strait this year in a warning to the United States not to cross its red line (Chart 11). It is not yet clear how Biden’s policy continuity with the Trump administration will affect cross-strait stability. We see no basis yet for changing our view that there is a 60% chance of a market-negative geopolitical incident in 2021-22 and a 5% chance of full-scale war in the short run. Chart 11China PLA Flights Over Taiwan Strait Putting all of the above together, we see substantial support for two key market-relevant geopolitical risks: Chinese domestic politics (including policy tightening) and persistent US-China tensions (including but not limited to the Taiwan Strait). We remain tactically defensive, a stance supported by several recent turns in global markets: The global stock-to-bond ratio has rolled over. China is a negative factor for global risk appetite (Chart 12). Global cyclical equities are no longer outperforming defensives. There is a stark divergence between Chinese cyclicals and global cyclicals stemming from the painful transition in China’s bloated industrial economy (Chart 13). Global large caps are catching a bid relative to small caps (Chart 14). Chart 12Global Stock-To-Bond Ratio Rolled Over Chart 13Global Cyclicals-To-Defensives Pause Chart 14Global Large Caps Catch A Bid Versus Small Caps Cyclically the global economic recovery should continue as the pandemic wanes. China will eventually relax policy to prevent too abrupt of a slowdown. Therefore our strategic portfolio reflects our high-conviction view that the current global economic expansion will continue even as it faces hurdles from the secular rise in geopolitical risk, especially US-China cold war. Measurable geopolitical risk and policy uncertainty are likely to rebound sooner rather than later, with a negative impact on high-beta risk assets. Matt Gertken Vice President Geopolitical Strategy mattg@bcaresearch.com Coda: Global Minimum Tax Symbolizes Return Of Big Government On Thursday, the US Treasury Department released a proposal to set the global minimum corporate tax rate at 15%. The plan is to stop what Treasury Secretary Janet Yellen has referred to as a global “race to the bottom” and create the basis for a rehabilitation of government budgets damaged by pandemic-era stimulus. Although the newly proposed 15% rate is significantly below President Biden’s bid to raise the US Global Intangible Low-Taxed Income (GILTI) rate to 21% from 10.5%, it is the same rate as his proposed minimum tax on corporate book income. Biden is also raising the headline corporate tax rate from 21% to around 25% (or at highest 28%). Negotiators at the OECD were initially discussing a 12.5% global minimum rate. The finance ministers of both France and Germany – where the corporate income tax rates are 32.0% and 29.9%, respectively – both responded positively to the announcement. However, Ireland, which uses low corporate taxes as an economic development strategy, is obviously more comfortable with a minimum closer to its own 12.5% rate. Discussions are likely to occur when G7 finance ministers meet on June 4-5. Countries are hoping to establish a broad outline for the proposal by the G20 meeting in early July. It is highly likely that the OECD will come to an agreement. However, it is not a truly “global” minimum as there will still be tax havens. Compliance and enforcement will vary across countries. A close look at the domestic political capital of the relevant countries shows that while many countries have the raw parliamentary majorities necessary to raise taxes, most countries have substantial conservative contingents capable of preventing stiff corporate tax hikes (Table 1, in the Appendix). Our Geopolitical strategists highlight that the Biden administration’s compromise on the minimum rate reflects its pragmatism as well as emphasis on multilateralism. Any global deal will be non-binding but the two most important low-tax players are already committed to raising corporate rates well above this level: Biden’s plan is noted above, while the UK’s budget for March includes a jump in the business rate to 25% in April 2023 from the current 19%. Ireland and Hungary are the only outliers but they may eventually be forced to yield to such a large coalition of bigger economies (Chart 15). Chart 15Global Minimum Corporate Tax Impact Is Symbolic Rather Than Concrete Thus a nominal minimum corporate tax rate is likely to be forged but it will not be truly global and it will not change the corporate rate for most countries. The reality of what companies pay will also depend on loopholes, tax havens, and the effective tax rate. Bottom Line: On a structural horizon, the global minimum corporate tax is significant for showing a paradigm shift in global macro policy: western governments are starting to raise taxes and revenue after decades of cutting taxes. The experiment with limited government has ended and Big Government is making a comeback. On a cyclical horizon, the US concession on global minimum tax is that the Biden administration aims to be pragmatic and “get things done.” Biden is also working with Republicans to pass bills covering some bipartisan aspects of his domestic agenda, such as trade, manufacturing, and China. The takeaway from a global point of view is that Biden may prove to be a compromiser rather than an ideologue, unlike his predecessors.   Matt Gertken Vice President Geopolitical Strategy mattg@bcaresearch.com   Roukaya Ibrahim Vice President Daily Insights RoukayaI@bcaresearch.com Footnotes 1 Kurt M. Campbell and Jake Sullivan, "Competition Without Catastrophe," Foreign Affairs, September/October 2019, foreignaffairs.com. Section II: Appendix Table 1OECD: Which Countries Are Willing And Able To Raise Corporate Tax Rates? GeoRisk Indicator China Russia UK Germany France Italy Canada Spain Taiwan – Province Of China Korea Turkey Brazil Australia Section III: Geopolitical Calendar

特別レポート

ハイライト EM銀行は、相対的なNPL動向の悪化と純金利マージンの縮小により、今後6か月で先進国（DM）の同業よりもアンダーパフォームする見込みです。 EM銀行は、引き締め的な貸出金利のためにNPLが増加し低迷する融資需要を継続して経験するか、または貸出金利を引き下げなければならず、そのいずれの場合も純金利マージンが大幅に縮小します。どちらのシナリオでも、EM銀行の利益は損なわれます。 加えて、EMは米国の急拡大する成長と中国の減速という好ましくないマクロのカクテルに直面しています。 これにより、今後数か月でEMからの資本流出が生じ、EM通貨が下落し、多くの中央銀行が積極的に利下げすることを阻む可能性があります。 特集 チャート1 EM対DM銀行：さらなるアンダーパフォーマンスの見込み EM対DMの銀行：今後さらにパフォーマンスが劣る見込み EM対DMの銀行：今後さらにパフォーマンスが劣る見込み 私たちはショートEM銀行／ロングDM銀行のストラテジーを開始することを推奨します。EMの株価はDMの同業に対して大きなテクニカル・ブレイクダウンを示しています（チャート1）。 マクロ分析の目的でEM銀行を議論する際、私たちは中国、韓国、台湾の銀行を他のEM同業から切り離して扱います。理由は、中国、韓国、台湾1の銀行システムは他のEMよりも景気循環的および構造的見通しが異なるためです。銀行の資産対GDP比ははるかに高く、中国、韓国、台湾では金融・財政政策の柔軟性が他のEMよりも大きいです。 チャート2 EMとDMにおける財政推進力 EMとDMにおける財政の推進力 EMとDMにおける財政の推進力 理由その1：EMはDMよりも高いNPL パンデミックによるロックダウンの結果、銀行のNPLはEMとDMの両方で急増しました。しかし、DMの銀行は過去1年で積み上げたNPL引当金を取り崩し始めています。これに対し、EMの経済では持続的な景気弱含みによりNPLが長引く見込みです。実際、EM銀行は貸倒引当金を増やす必要があり、利益をさらに侵食する可能性があります。 DMの政策担当者はEM（中国、韓国、台湾を除く）の政府よりもはるかに大きな財政支援を行いました。これらのEM経済における財政推進力は2021年にマイナスとなる一方、米国ではプラス、ユーロ圏では中立と予想されています（チャート2）。 チャート3は個別のEM経済における財政推進力を示しています。ロシアとブラジルの財政推進力が最もネガティブです。 EM（中国、韓国、台湾を除く）では代表的貸出金利が低下しているものの、名目では依然として高く（約10％）、実質では6.5％と高止まりしています（チャート4、上段と中段）。我々の見解では、これらの水準の代表的貸出金利はEM経済にとって引き締め的であり、融資需要を抑制し、債務者の返済能力を損ないます。実際、銀行の貸出成長はEM（中国、韓国、台湾を除く）で依然として非常に抑制されています（チャート4、下段）。 チャート3 2021年の個別EM国の財政推進力 エマージング・マーケット（EM）銀行をショート／デベロップド・マーケット（DM）銀行をロング エマージング・マーケット（EM）銀行をショート／デベロップド・マーケット（DM）銀行をロング パンデミックは複数の発展途上国で長引いており、ワクチン接種の進捗はDMに比べて遅れています。結果として、EMの完全な経済回復のペースとタイミングはDMに遅れます。チャート5は、EM（中国、韓国、台湾を除く）における小売売上高と自動車購入が依然として冴えないことを示しています。 チャート4 EM銀行の貸出金利は引き締め的である EMの銀行貸出金利は引き締め的だ EMの銀行貸出金利は引き締め的だ チャート5 中国、韓国、台湾を除くEM：内需は低迷している 新興国（中国・韓国・台湾を除く）：国内需要は低調 新興国（中国・韓国・台湾を除く）：国内需要は低調   理由その2：EM銀行の純金利マージンの圧迫 EM銀行はジレンマに直面しています。彼らには以下の選択肢があります。 引き締め的な貸出金利のためにNPLが増加し、融資需要が低迷し続けることで銀行の利益も損なわれることを受け入れる、 および/または 新規融資を促進し債務者の返済を助けるために貸出金利を大幅に引き下げる。そうした場合、純金利マージンと利益が縮小する。 要するに、借り手が過去よりもはるかに低い貸出金利にもかかわらず苦戦しているのは、基礎的な生産性と資本収益率の問題に帰着します。これらはEM（中国、韓国、台湾を除く）経済で大幅に低下しています。 これはパンデミックが発生する前からの事実であり、現在も同様です。 チャート6 EM銀行：純金利マージンとEPS EM銀行：純金利マージンとEPS EM銀行：純金利マージンとEPS 手短に言えば、EM銀行がNPLの悪化を回避する唯一の方法は貸出金利を引き下げることです。しかしながら、それは純金利マージンを侵食し利益を抑制します。チャート6は、純金利マージンが銀行のEPS成長の重要なドライバーであり、現在は銀行収益の弱さを示唆していることを示しています。 注目すべきは、EM（中国、韓国、台湾を除く）中央銀行が政策／短期金利を引き下げる余地がほとんどないことです。そうすると、米国の成長が好調で米国債利回りに上方圧力がかかっている時期に通貨の弱体化を引き起こす可能性があります。 総じて、代表的貸出金利の低下はEM（中国、韓国、台湾を除く）における銀行の純金利マージンの圧迫を生むでしょう。 中国においては、当局は中央銀行が短期金利を引き下げる予定はないものの、銀行に対して中小企業向け貸出金利の引き下げを期待していることを明確にしています。このような本土銀行への圧力は2021年下半期に成長が減速するにつれて強まるでしょう。したがって、中国の銀行も純金利マージンの縮小を経験しています。 理由その3：EMにとって好ましくないマクロのカクテル 2021年の我々の主要なグローバルテーマは、米国の景気ブームと中国の減速です。このようなグローバルなマクロダイナミクスは米ドルの反発とコモディティ価格の下落を正当化します。 米国経済は、経済の一般的な再開、大規模な財政刺激、雇用と所得の増加、そしてサービス需要のリバウンドの解放により2021年下半期に好況となるでしょう。 中国経済はマネーと信用のインパルスのロールオーバーが先取りして示した通り減速する見込みです（チャート7）。 中国の減速はコモディティ価格とEM通貨の下落につながるでしょう（チャート8）。 チャート7 中国は減速する見込み 中国は減速する見通しだ 中国は減速する見通しだ チャート8 コモディティとEM通貨はリスクにさらされている コモディティと新興国通貨はリスクにさらされている コモディティと新興国通貨はリスクにさらされている   最後に、EMのEPSの最も良い先行指標の1つは中国の狭義マネー成長でした。チャート9は、中国の狭義マネー成長の最新のロールオーバーが今年後半のEMのEPS減速を示唆していることを示しています。 チャート9 中国の狭義マネーはH2におけるEM EPS減速を予告する 中国の狭義マネーが新興市場のEPS減速を下半期に示唆 中国の狭義マネーが新興市場のEPS減速を下半期に示唆 EMの景気循環は中国の成長に非常に敏感です。多くの新興経済は米国と同じかそれ以上に中国へ販売しています。 差し迫った中国の減速はコモディティ価格の大幅な下落を引き起こし、多くのEM（中国、韓国、台湾を除く）経済の貿易条件を悪化させます。一方、米国の景気拡大は米国債利回りの上昇を予告します。これらのダイナミクスは合わせて米ドルの反発を促す可能性が高いです。 要するに、そのようなマクロのカクテルは今後数か月でEMからの資本流出を引き起こし、EM通貨を下落させ、多くの中央銀行が積極的に利下げすることを阻む可能性があります。その結果、特に脆弱なEM諸国では現地通貨建て債券利回りはあまり低下しないでしょう。 チャート10 中国、韓国、台湾を除くEM：現地金利が上昇すると銀行は低迷する 中国、韓国、台湾を除く新興国：現地利回りが上昇すると銀行のパフォーマンスは悪化する 中国、韓国、台湾を除く新興国：現地利回りが上昇すると銀行のパフォーマンスは悪化する チャート10は、EMの現地通貨建て利回りの上昇（図では反転して表示）は、通常EM（中国、韓国、台湾を除く）銀行株にとってネガティブであることを示しています。これは、米国や欧州とは逆の動きで、そちらでは債券利回りが上昇すると銀行株は上昇します。 理由その4：中国の銀行株は依然としてバリュートラップ 中国の銀行株の時価総額はMSCI EM銀行指数の25％を占めています。したがって、中国の銀行株のパフォーマンスはMSCI EM銀行株指数に大きく寄与します。 中国の商業銀行の資産は2009年初以来1.5倍に拡大しました（チャート11）。この拡大の大部分は新規融資、社債の購入、および地方政府や関連機関への各種債権によって駆動されています。  我々は繰り返し詳述してきたとおり、銀行資産の動向と国や家計の貯蓄には関連がありません。重要なのは、銀行は預金を融資へ、貯蓄を信用供与へと仲介していないという点です。これは世界中のすべての国で当てはまります。 2009年以降の中国でのこのような壮大なクレジットブームを受けて、通常、債権者一般、特に銀行はバランスシートの徹底的なクレンジングを実行するはずであり、その規模は途方もないものとなるでしょう。しかし、現在のところ中国の銀行は大規模なクレンジングをまだ行っていません。 我々の推計では、銀行は2012年以降で9.4兆人民元相当の貸出を処分（償却および売却）しており、これは2009年1月（クレジットブーム開始）以降に創出された全貸出の6.6％に相当します。加えて、銀行の貸倒引当金は貸出残高の3.4％と依然非常に低い水準にあります。 要するに、中国の銀行はまだ十分にバランスシートをクレンジングしておらず、多くの非認識の不良債権・資産を抱えています。投資家は銀行の簿価の質に疑念を抱いています。その結果、中国の銀行株は過去10年間停滞しています（チャート12、上段）。 チャート11 中国の銀行資産：壮大なブーム 中国の銀行資産：記録的な急増 中国の銀行資産：記録的な急増 チャート12 中国、日本、韓国、台湾における銀行株は停滞している 中国、日本、韓国、台湾では銀行株が停滞している 中国、日本、韓国、台湾では銀行株が停滞している   本土銀行の資産品質の問題が広く知られていることを鑑みると、政府は全面的な銀行危機を許容しないでしょう。しかし、当局は現在の株主が損失を被らない形で銀行を公的に増資することも行わないでしょう。 総じて、中国の銀行株は日本の銀行株と同様の運命を辿る可能性があります。後者は日本が深刻な信用危機を経験したことはないにもかかわらず長期的なベア相場にあります（チャート12、第2パネル）。 要するに、韓国および台湾の銀行株も過去20年間にわたり非常に低いリターンを示してきました。これらの銀行は深刻な危機を経験しておらず、これらの経済の信用対GDP比は上昇しているにもかかわらずです（チャート12、第3および第4パネル）。 結論として、信用浸透度の上昇だけでは銀行株主にとっての価値創出に十分ではありません。与信資産の質、利益マージン、および株価評価と銀行の資本充実度の出発点が将来の銀行株リターンにとって重要です。 銀行株のバリュエーションについて一言 チャート13 中国、韓国、台湾を除くEM：銀行の株価純資産倍率（PBV） 中国、韓国、台湾を除く新興国：銀行の株価純資産倍率 中国、韓国、台湾を除く新興国：銀行の株価純資産倍率 中国の銀行株は非常に低い倍率で取引されていますが—株価純資産倍率（PBV）は現在0.6で—これはバリュートラップを意味します。比較のために、PBVは韓国で0.5、台湾で1.2です。 中国、韓国、台湾を除くと、EM銀行のPBV比率は歴史的平均を大きく下回っています（チャート13）。しかし、この集計はEM銀行間の大きな格差を覆い隠しています。チャート14は過去12か月の自己資本利益率（RoE）をX軸に、PBVをY軸にプロットしたもので、RoEとPBVには明確な正の相関があります。   チャート14 グローバル銀行株の比較バリュエーション・マトリックス 新興国（EM）銀行をショート／先進国（DM）銀行をロング 新興国（EM）銀行をショート／先進国（DM）銀行をロング 銀行の株式バリュエーションと国のマクロファンダメンタルを組み合わせると、EM銀行の領域ではインド、メキシコ、韓国、チェコ、ロシア（ウクライナで大規模な軍事衝突が発生しないことが条件）およびシンガポールの銀行を好みます。一方で、最も脆弱なのはブラジル、ペルー、トルコ、フィリピン、マレーシア、インドネシアの銀行株です。 中国の銀行に関しては、我々は引き続き大手銀行ロング／中小銀行ショートのストラテジーを推奨します。根拠は、多くの悪材料が大手銀行株には既に織り込まれている一方で、上場する中小銀行株にはほとんど織り込まれていないからです。特にPBVは大手銀行で0.7、中小銀行で1.3です。大手銀行よりも中小銀行の方が、今年末までに実施される新しい資産管理規制のリスクにさらされています。 投資推奨 私たちはショートEM銀行／ロングDM銀行のポジションを開始します。これは今後6か月の中期的なストラテジーです。 このストラテジーは、我々が3月25日に推奨したEM株式に対するDM株式の戦術的アンダーウェイトと整合しています。 構造的観点からは、グローバル株式ポートフォリオ内でのEMの配分をニュートラルとすることを引き続き推奨します。 本日、我々はインドに関するレポートも公表しており、COVID-19感染者の急増により短期的な下振れリスクを強調しています。懸念すべきは、インドで新規感染者数がいくつかの潜在的なスーパースプレッダーイベントにより当面非常に高止まりする可能性があることです。 その結果、ボラティリティに対する耐性が低い資産配分担当者には、EM株式ポートフォリオ内でインドを戦術的に中立へ格下げすることを推奨します。長期投資家はインド株を引き続きオーバーウェイトすべきです。 チャート15 ペルー株式を中立からアンダーウェイトへ移す ペルー株式の格付けを中立からアンダーウェイトに引き下げる ペルー株式の格付けを中立からアンダーウェイトに引き下げる 最後に、ペルーの銀行株は左派候補のペドロ・カスティージョが大統領選の第2回投票（6月6日）前の世論調査でリードしていることを受けて急落しています。チャート15は、急増するNPL（図では反転表示）が銀行株のさらなる下落を予告していることを示しています。 したがって、政治的な不確実性、NPLの増加、金属価格の下落の可能性を踏まえ、我々はペルー株式を中立からアンダーウェイトへ格下げします。 Arthur Budaghyan チーフ・エマージング・マーケッツ・ストラテジスト arthurb@bcaresearch.com   脚注 1 本レポートでは、台湾（中国の台湾省）を単に「台湾」と表記します。   株式の推奨 新興国（EM）銀行ショート / 先進国（DM）銀行ロング 新興国（EM）銀行ショート / 先進国（DM）銀行ロング 通貨、クレジット、およびフィクスト・インカムの推奨

ハイライト パンデミックとその反発局面でリスクが大幅に低下した後、地政学的リスクは再び高まっている。 バイデン政権は中国／台湾、ロシア／ウクライナ、イスラエル／イランの３つの重大な外交試練に直面している。 ロシアはウクライナへの軍事侵攻を行いリスクオフを引き起こす可能性がある。ただしウクライナ全土への全面侵攻は起きにくいため、世界市場は比較的速やかに持ち直すだろう。 イランはウラン濃縮の「ブレイクアウト」閾値に接近しており、核兵器化に対するイスラエルのレッドラインを示すさらなる示威行動を招くだろう。イランは報復する見込みだ。これまでの見方では、緊張は8月までに米国とイランの合意が成立する前にエスカレートする見通しで順調に進んでいる。 台湾はすべての地政学的リスクの中で市場に最も関連性が高い—しかし南シナ海も米中の威嚇行為の別の舞台である。ここでの危機は台湾と結びつく場合に最も重要になる。 CAD-RUB と CHF-GBP をロングする。 特集 チャート 1 世界で最も深刻な海峡における通行量 話し合いか戦争か？ 話し合いか戦争か？ 英国首相ハロルド・マクミランはウィンストン・チャーチル卿の言葉を引用してかつて「Jaw‑jaw は war‑war より良い」と述べた。1 ジョー・バイデン大統領は、台湾に対する中国の軍事的威圧、ウクライナ国境でのロシアの軍事的集結、イランの核開発の加速という戦争リスクの増加を伴う三つの差し迫った外交試練に直面しており、間違いなく対話を望んでいるだろう。 こうした紛争の深刻さを示す一つの方法は、関連する地理的な交通のボトルネック、つまり台湾海峡、マラッカ海峡、ホルムズ海峡、ボスポラス海峡を通過する世界貿易の量を見ることだ（チャート 1）。石油と石油製品は全体の交通量の代替指標として用いている。最近の一時的なスエズ運河の閉塞は、これらのグローバルなボトルネックのいずれかで紛争が発生した場合に起こり得る混乱の大きさを示唆している。 本レポートではバイデンの外交試練における最近の展開を概観する。 我々の見解は概ね順調である。投資家はグローバル金融市場に地政学リスクがより多く織り込まれることを戦術的に想定し、安全資産へのフローや場合によっては一般的な株式の調整に備えるべきだ。景気循環的には最悪ケースがない限り強気相場は続く。 バイデンの３つの外交試練 バイデンの３つの外交試練はいずれも本稿執筆時点で強まっている： 中国／台湾：中国は台湾島周辺で高強度の「戦闘訓練」や実弾演習を継続している。2 米国は北京の反対にもかかわらず台湾へ外交代表団を派遣し、比較的大規模な武器提供を行う予定だ。一方でワシントンは、バイデン大統領と習近平国家主席の首脳会談をアースデイに設定するために、同大統領の「気候担当特使」ジョン・ケリーを北京へ送っている。バイデンによる米中政策の総括的レビューは5月に予定されている。 ロシア／ウクライナ：ロシアはウクライナ国境とクリミアに8万5千人を超える部隊を集結させており、2014〜15年の侵攻以来の最大の兵力集中だ。ロシアはワシントンに対する大使を召還し、米国が新たな制裁を課すなら報復すると警告した。米国は実際にロシアのサイバー攻撃や選挙干渉に応じて新たな制裁を課しており、6月からのルーブル建てロシア国債の販売禁止などを含む。従ってロシアの報復は差し迫っている。 イスラエル／イラン：3月23日の選挙直後、イスラエルはナタンズ核燃料濃縮施設の地下施設を破壊工作し、イランはイスラエル領内で報復すると宣言した。イランはウランを60%レベルまで濃縮すると主張しており、これは核兵器製造に必要な90%以上に近づく数値だ。米国とイスラエルの当局者は以前、イランが4月から8月の間に「ブレイクアウト」レベルの兵器級ウランに到達すると示唆していた。交渉は続いているが、このプロセスは攻撃に見舞われやすいだろう。 我々は今年、台湾に関するダイナミクスについて広範に執筆してきた。本レポートではまずロシアとイランの状況を更新し、その後中国に進む。 結論：パンデミック中の一時的な和らぎの後、地政学リスクが再燃している。新しい米政権は同時に三つの深刻な外交試練に直面している。金融市場は緊張の高まりを大部分で無視してきたが、当面は安全資産が買われると予想する。しかし我々はまだ強気の景気循環見通しを変更していない。以下で説明するように、現時点では「Jaw‑jaw（対話）」の域にあると考えている。 ロシアと新興欧州はショートを継続 民主党の復権によりワシントンとモスクワの緊張は直ちに高まった。バイデン政権は外交的なリセットを避け、むしろ大国間競争を追求している。米国はウクライナへの武器提供やNATOの軍事演習を増やしている。ロシアのサイバー攻撃や選挙干渉に対する制裁を課し、長年待望されていたルーブル債購入への措置を取った。ワシントンはドイツに対してノルドストリームIIパイプラインの取消しを迫る可能性もある。 しかし緩和的な兆候もある。バイデン大統領はプーチン大統領と第三国での二国間首脳会談を提案しており、両者はアースデイのサミットで会う可能性がある。米海軍はまた、モスクワが黒海に入る米軍艦船は危険に晒されると警告した後に、USSドナルド・クックとUSSルーズベルトの駆逐艦を黒海に入らせるのを取りやめた。ワシントンの新たな制裁はロシアによる米国選挙への大規模介入と同等というほどではなく、ノルドストリームIIに関する新たな措置は含まれていない。 米国が建設完了前にドイツにノルドストリームの取消しを強いる動きを取れば、ロシアは報復するだろう。ノルドストリームの目的はウクライナを迂回してロシアとドイツの直接的経済関係を固めることにある。ドイツ政府はウクライナ国境でのロシアの集結や政治的反対者の弾圧にもかかわらずこのプロジェクトを支持している。米国がパイプラインを否認すれば、ロシアは正当な貿易ルートへのアクセスを奪われ、ウクライナ経由以外の輸出オプションが制限されることになる。もし同時に米国がウクライナとの軍事協力を強化すれば、それは暗にロシアの欧州向けエネルギーアクセスを制御しようとする試みとなる。ロシアはウクライナを罰することで報復する可能性が高い。 ロシアはノルドストリームやウクライナ向けの米国のアプローチにかかわらず、ウクライナや他の場所で攻勢の行動を取る可能性がある。ロシアは弱い国内経済と社会的不満に悩んでおり、人気が低下すると国外での冒険主義に走る前例がある。さらに立法選挙が9月に迫っている。したがってロシアは少なくとも今後半年間、ウクライナで紛争を引き起こす独自の理由を持ち得る。 能力から判断すると、ロシアは分離地域ドンバスに軍事侵攻を仕掛けるのに十分な部隊を配備している。国境でのロシア軍の増強は2014年以来最大であり、ロシア語圏のウクライナの大部分を危険にさらし得る規模だ。 ウクライナ全土への全面的なロシア侵攻は起きにくいが不可能ではない。それは占領のための血と財を極めて大きく消費するだけでなく、西側をロシアに対して結束させ、モスクワが望むものの逆結果を招く（チャート 2）。米国がノルドストリームを停止するかウクライナをNATOに加盟させようとしない限り、モスクワはこの結果を避けたいと考えるだろう。 チャート 2 ウクライナに対するロシアの制約 話し合いか戦争か？ 話し合いか戦争か？ 市場の観点からすれば、政府とロシア支援の反乱勢力とのウクライナ内での戦闘激化は現状維持である。これは避けられず、世界株式に大きな影響はないだろう。2014年のクリミア侵攻はS&P500で最大2%のドローダウンにとどまった。金融市場を揺さぶったのはロシアのウクライナ侵攻ではなく、マレーシア航空17便の撃墜だった。世界株は2.7%下落、ユーロストックス500は6.2%、ロシア株は10.7%下落した。 2014〜15年の戦闘には最終的にロシア軍が参加しており、単なるロシア支援の分離主義勢力だけではなかったことに留意すべきだ。したがって、紛争がウクライナ、特に争われている地域に限定され、米国とNATOが関与しなければ、世界の金融市場はその種の紛争に比較的耐えうる。 ロシアがウクライナ全土の完全征服を追求すれば、より大きな安全資産への逃避が生じるだろう。これは確率は低いが影響は大きい。欧州でのより大規模な戦争のリスクを初めて高めるため、世界的なリスクオフを引き起こす。 ロシアは大戦略と国家安全保障の観点からウクライナに執着しており、必要と判断すれば少なくとも何らかの軍事行動を取るだろう。投資家はエスカレーションに備えるべきだが、ワシントンもモスクワもまだ致命的な一手を打ってはいない。 ウクライナ側のいかなる攻撃的行動にも注意を払うことが重要だが、ウクライナが主導的要因というわけではない。現在の状況は2008年のグルジア（ジョージア）の事例に似ている。ロシアは当時ミハイル・サアカシュヴィリ大統領を扇動して分離主義者に対する行動を取らせ、その後介入してアブハジアと南オセチアを分離させた。ウクライナのヴォロディミル・ゼレンスキー大統領が挑発に乗せられる可能性はあるが、挑発を恐れて躊躇することがロシアに主導権を与えることもあり得る（2014年の出来事のように）。ウクライナにとっては「やれば地獄、やらなければ地獄」だ。ロシアの行動は大部分その利益次第で決まる。 これまでロシア株は他の新興市場株式やコモディティラリーに遅れを取ってきたが、これは部分的に政治・地政学リスクの上昇を反映している可能性がある（チャート 3）。ロシア株のトレンドはここからさらに悪化する可能性がある。 9月の選挙を控えたロシアの対西側紛争への関心を考えると、ロシア―ウクライナの緊張は今年の大半続く可能性がある。気候が改善する5月中旬以降に大規模軍事作戦の確率が高まるだろう。ロシア通貨と資産は引き続き圧力を受けるだろう。 我々はカナダドルをロシアルーブルに対してロングすることを推奨する。ルーブルは、クリミア紛争の2014年を踏まえると、コモディティ通貨を含む他のコモディティ通貨に対してアンダーパフォームするだろう（チャート 4）。一方でカナダやメキシコの通貨は、米国経済が過度に刺激されていることと迅速なワクチン接種の恩恵を受けるはずだ。 チャート 3 ロシアはコモディティ・ラリーに遅れ ロシアはコモディティ・ラリーに出遅れた ロシアはコモディティ・ラリーに出遅れた チャート 4 ルーブルよりルーニーとペソを優先 ルーニーとペソをルーブルより優先する ルーニーとペソをルーブルより優先する チャート 5 先進欧州ロング / 新興欧州ショート DMヨーロッパのロング / EMヨーロッパのショート DMヨーロッパのロング / EMヨーロッパのショート 我々は先進欧州をオーバーウェイトし、新興欧州をアンダーウェイトし続ける（チャート 5）。ポーランド、ハンガリー、チェコ、ルーマニア、バルト三国は現在の緊張によりリスクプレミアムを被るだろう。チェコは10月の立法選挙を巡る政治的不確実性に直面しており、ロシアの介入や反体制（とはいえ対EU）政党の台頭の機会となり得る。 バイデンとプーチンがどうすれば緊張を緩和できるかを問うと、米国とNATOはウクライナ関係を縮小し、民主主義促進や心理的な反戦作戦を格下げし、ノルドストリームの完成を容認することができる。ロシアは国境での兵力を削減し、イラン核合意やアフガニスタン撤退で協力の手を差し伸べることができる。これは我々の見方に対するリスクである。 結論：ロシアと新興欧州市場は、新興市場株式の中でも数少ない本当に割安な市場の一部である（表 1）。しかし現状の地政学的文脈はそれらを割安なままに保ちそうだ。現時点では西側とロシアの対立が大きくエスカレートすることに備えるべきである。少なくとも米国がノルドストリームIIの建設を停止するか否かが判明するまで、新興欧州に対してより強気な見方を取るのは控えるべきだ。 表 1 地政学的リスクがロシアと新興欧州を割安に保つ 話し合いか戦争か？ 話し合いか戦争か？ ウクライナに対するロシアの全面的な征服という最悪シナリオは確率は小さいが排除できない。 イラン交渉：先に爆発、次に核合意 イスラエルは3月23日の選挙後も政府を組織できておらず、ベンヤミン・ネタニヤフ首相が再び政権を率いる可能性があるため国家政策にはいまだ変化がない。さらにイスラエルの世論と政治体制はイランの地域的・核に関する野望に対して一致して反対している。 イランがナタンズ核施設で新しい遠心分離機を稼働させた直後の4月11日、イスラエルは同施設の地下施設に対する破壊工作を行ったとされる。この攻撃はサイバー手段に限定されないもので、複数の遠心分離機を無効化したとされる。イランの科学者がクレーターに落ちて負傷した。 イランはイスラエル領内で報復すると誓っている。より根本的には、政治が強硬化の方向へ動いており、6月の強硬派大統領の選出で相互敵対は一層激化するだろう。この権力移行は、我々が8月の就任を米国が2015年の核合意（包括的共同行動計画）に復帰するための重要な期限と特定した大きな理由である。バイデン政権がその時までに合意をまとめられなければ、より危険な数年にわたる交渉が始まるだろう。 ただしイスラエルの攻撃は短期的には交渉を止めていない。第二ラウンドの協議は本稿執筆時にウィーンで始まっている。米国はまた9月11日にアフガニスタンから撤退することを確認しており、これはイランに対してバイデンが地域における米国の戦略的足跡を縮小する決意があることを示し、米国の合意追求の動機を補強している。 今後数か月、イスラエルはイランの核・ミサイル計画に対するレッドラインを秘密裏の攻撃を通じて強調し続けるだろう。しかし彼らは2015年に米国の核合意を阻止できなかったし、今日も米国の動きを止める可能性は低い。イスラエルは米国との同盟を維持する必要があり、これがイランや中東全体の不安定性に対する長期的な安全保障を確保している（チャート 6）。 イランはイスラエルに報復し、今夏は報復の応酬が起きる可能性が高い。これには重要インフラへの攻撃も含まれる恐れがある。イランはイラクやサウジアラビアの敵に対する作戦も続ける可能性があり、これが予期せぬ石油供給停止を引き起こし原油価格を押し上げることがある。イスラエル、サウジ、UAEの株式市場を一目見れば、世界の投資家はこれまで地政学リスクを大部分無視してきたが、米国とイランの合意前に紛争がエスカレートする可能性に対して反応し始めているかもしれない（チャート 7）。 チャート 6 イランに対するイスラエルの制約 話し合いか、それとも戦争か？ 話し合いか、それとも戦争か？ 米国、ドイツ、フランス、ロシア、中国はイランを合意遵守に戻すことに公式に賛同している。遵守への復帰は米国の制裁緩和と段階的にリンクされる必要がある。イラン側は米国が2018年に一方的に協定から離脱し制裁を再課したため、まず米国が制裁を緩和することを要求している。 チャート 7 サウジ、UAE、イスラエルの株式が危険信号を示す サウジ、UAE、イスラエルの株式に危険信号 サウジ、UAE、イスラエルの株式に危険信号 最終的にバイデンは最初の一手を打つことが可能だ。米国民はイランに対して非常に関心が薄く、バイデン自身も地域を安定させ、米国がアジア太平洋により戦略的注意を向けられるようにするためにイラン合意が必要だというワシントンの強いコンセンサスに基づいて行動している。 ロシアと中国は、対米関係が同時に緊張している中でイラン合意を支持するだろうか？ 米国とイランが既存合意への復帰で満足する限り（合意は2025年に有効期限を迎える）、ロシアや中国が何かする必要はほとんどない。しかしワシントンがより良い合意を望むなら、モスクワと北京に対して大幅な譲歩を行わねばならず、新たでより良い合意は交渉に何年もかかるだろう。 チャート 8 露中協力の拡大 話し合いか戦争か？ 話し合いか戦争か？ ロシアと中国は核拡散を制限する機会として当初の核合意を支持した。中東での核軍拡は両国の力を希薄化させるからだ。イランはロシアと中国にとって中東における有用な戦略的パートナーであり、彼らはイランの経済が強くなることを政権の永続化にとって好ましいと考えている。彼らはイラン経済の自由化が政治の自由化につながらないと踏んでいる（ロシアや中国の例が示す通り）ため、経済的に強く影響力を持つ同盟国を維持できると見ている。 露中の戦略的パートナーシップは過去10年で劇的に成長した。両国は米国の世界的指導力を弱め、米国内の分断を煽る利害を共有している。両国は自国の国境近傍、特に安全保障と政治的正当性に不可欠と考える戦略的領域や海域での米軍の存在を減らすことに利害を同じくする。ロシアはますます中国の需要と中国の投資に依存して資源を開発している。双方とも貿易において相手の通貨を完全には信頼していないが、米ドルからの多様化という共通の利害を持っている（チャート 8）。 チャート 9 中国はイラン支援の手を差し伸べるか？ 中国はイランに支援の手を差し伸べるか？ 中国はイランに支援の手を差し伸べるか？ イラン問題で米国と協力する場合、ロシアと中国は自国の核心的利益に近い戦略分野での要求を米国に尊重することを期待するだろう。バイデン政権がウクライナや台湾との貿易・防衛関係を強化し続ければ、モスクワと北京は強硬に反発し、その時点でイラン合意を阻止または弱体化させる可能性がある。 中国は少なくとも公的にはイランへの制裁を執行している（チャート 9）。中国とイランの戦略的パートナーシップは米国が制裁体制を明確にするまで交渉の継続状態にある。明らかに中国は核の脅威に関する協力の見返りとして米国から譲歩を引き出したいと考えている。これは北朝鮮に関しても同様であり、ミサイル危機は中国にとって仲裁の必要性を生み出す好都合な出来事となる。中国はバイデンにトランプ大統領が課した制限を解除させる機会を見ている。今後数か月でバイデン政権の対中強硬姿勢が確認されれば、中国の協力意欲は変化するだろう。 結論：イスラエルはイランの核兵器化に対するレッドラインを強調しており、今春から夏にかけての紛争は増加するだろう。しかしそれでも米国とイランの2015年の核合意再交渉を妨げてはいない。我々は今もバイデンが8月までに合意に達するだろうと予想している。 台湾と南シナ海 グローバル金融市場にとってバイデンが直面する最重要の試練は米中関係と台湾海峡を巡る緊張だ。我々はこの問題に関して最近の調査と議論を繰り返すつもりはない。要するに、今後12〜24ヶ月の間に何らかの危機が発生する確率を60%と見ており、全面戦争の確率を5%と見積もっている。全面戦争の確率は国内の中国の不安定化、画期的な米国の軍事売却、あるいは台湾の独立宣言などが起きれば急速に上昇する可能性がある。 全面的な中国の台湾攻撃に対する最大の抑止要因—我々が現在5%の確率と見積もる理由—は、それが中国経済に壊滅的な打撃を与えるという点だ。中国の先進国との貿易は台湾を含め輸出の63%、GDPの11%を占める（チャート 10）。北京は最終的には「統一」のためにこの代償を支払う覚悟があるかもしれないが、それを軽々しく行うことはない。年を追うごとに中国はグローバルな経済的影響力と台湾に対する軍事能力を高めている。 チャート 10 台湾に対する中国の制約 話し合いか、それとも戦争か？ 話し合いか、それとも戦争か？ 中国は貿易戦争期に減少していた米国債の購入を増やしている（チャート 11）。中国は金利が上昇した際に購入を増やすことが多く、ワクチン発見以降国債利回りが急上昇していることを考えれば、これは中国が米国との全面戦争を準備していることを示す明確な兆候ではないが、限定的な指標で誤解を招く恐れはある。   戦争以外の危機とは何か？我々が台湾で「何らかの危機」と言うとき、何を意味するのか？ 大きなグレーゾーンとしては経済制裁や経済封鎖がある。2016年に名目上独立志向の政党が勝利した際、中国は観光を切り詰めたが、COVID‑19で観光は完全に停止した。それでも現時点でより広範な禁輸措置の証拠はない（チャート 12）。これは一夜にして変わり得る。米国法は台湾への禁輸を禁止しているが、ここは北京が米国のコミットメントを試すかもしれない領域である。 チャート 11 中国の米国債購入が増加 中国、米国トレジャリーズをさらに買い増し 中国、米国トレジャリーズをさらに買い増し 現在の台湾に対する高圧的状況は大部分が新たな米国の輸出管理と世界的な半導体不足が重なっていることに起因する。中国はまだ自国の半導体需要を満たせず、米国とその同盟国なしには先端チップを十分に開発できない（チャート 13）。 チャート 12 台湾に対する禁輸は（まだ）ない 台湾への禁輸はまだない 台湾への禁輸はまだない If the Biden administration pursues a full technological blockade then China may be forced to take tougher action on Taiwan. But if Biden pursues a more defensive strategy then a new equilibrium will develop that spares China the risks of war. チャート 13 中国の半導体需要 中国の半導体需要 中国の半導体需要 米国と中国は同時に南シナ海での海軍対立をエスカレートさせており、特にフィリピン周辺で緊張が高まっている。米中の空母群や艦艇が互いににらみ合っており、北京はフィリピンを威嚇して同国の米国との防衛条約への信頼を揺さぶろうとしている。中国は南シナ海を自国領と主張しており、米国の航行の自由を否定しようとする試みに対して米国は航行の自由を主張するため、艦船の沈没に至る可能性もある。 南シナ海の戦略的重要性は台湾海峡と似ている。中国がこれらの海域を掌握すれば、台湾、日本、韓国の供給保障が脅かされ、米国の地域における戦略的地位が弱まる。ベトナムやフィリピンでの代理戦争のリスクが高いことは以前から指摘しているが、これらは北東アジアの安全保障と比べると世界的関心事としては重要度が低い。台湾は半導体問題のために世界の投資家にとってはるかに重要だが、南シナ海でも危機が発生する機会は多い。この海での危機は周縁的だと片付けられない。直接的な米中衝突に発展するか、最悪の場合、台湾への行動の前触れとなる可能性があるためだ。中国は台湾への接近路を制御しようとするだろう。 この地域の最後のリスクは北朝鮮が弾道ミサイル試験を再開したことである。前述の通り、危機は中国にとって都合が良いタイミングで発生する可能性がある。しかし投資家にとって北朝鮮は重要な台湾海峡からの注意をそらすものに過ぎず、リスクオフ感情を助長する程度だ。 結論：米中関係は依然として不安定であり、南シナ海や朝鮮半島を巡って衝突が発生する可能性は台湾海峡での衝突と同様に存在する。台湾海峡は最も重要な地理的地点である。南シナ海での直接的な米中衝突は世界的な売りを引き起こす可能性があるが、台湾と結びつかない限り市場は比較的速やかに回復するだろう。 投資のポイント 地政学的リスクはCOVID‑19パンデミック期間の和らぎの後に再燃している。とはいえ、摩擦が直ちに戦争に直結するとは限らない。外交の余地は残されている。米中、ロシア、イランが「Jaw‑jaw（対話）」を選べば、世界株のラリーはさらに続く可能性がある。 しかし戦術的観点からは、上で示した議論はバイデンの早期の外交試練の少なくとも一つが地政学的事件へとエスカレートし、地域的または世界的な株式市場に悪影響を与える可能性があることを示している。 市場はこれらのリスクの顕在化に備えていない。主要国の標準的なグローバル政策不確実性指標は多くの国で急低下している点は注目に値する。政策不確実性が上昇している世界の数少ない国の二つに中国とロシアが含まれるのは注目に値する。後者は国内の不安定さによる可能性が高く、これは攻撃的な外交政策の大きな動機となる（チャート 14）。 チャート 14A 世界の政策不確実性は復活する グローバルな政策不確実性は再燃する グローバルな政策不確実性は再燃する チャート 14B 世界の政策不確実性は復活する グローバルな政策不確実性は再燃するだろう グローバルな政策不確実性は再燃するだろう 世界的な財政刺激は依然として非常に強力であり、今年がピークになる可能性が高い。チャート 15は主要国の最新の財政刺激の更新を示しており、COVID‑19危機と2008年の金融危機を比較している。このチャートの以前の版からは注目すべき変更がいくつかあり、主に昨年のショック後のGDPの改定、急速な経済の反発による税収の改定、刺激策の時期と規模の改定によるものだ。バイデン政権の2.3兆ドルのインフラ計画は当然含まれていない。チャート 15の第2パネルは2020年10月から2021年4月にかけてのIMFの推定値の変化を示している。本質的に2020年の財政刺激は過大評価されていた。多くの施策が発動せず、経済のスナップバックが予想より良かったためだ。一方で2021年の刺激は予想より大きい。ロシアと中国は他国より早く金融緩和を引き締めたことで、両年のIMF推定の財政刺激が減少した点が目立つ。 チャート 15 世界の財政刺激チャートの改訂 対話か戦争か？ 対話か戦争か？ コモディティは世界的な回復の大きな受益者であった（チャート 16）。中国の成長は今年減速する可能性が高く、これは地政学的危機とは別に下押しを引き起こすだろう。しかし景気循環的な観点からは、特に工業用金属は供給が限られる中で需要が急増しており恩恵を受けるはずだ。地政学的危機や戦争は当初はネガティブだが、その後金属にとってはポジティブとなるだろう。 チャート 16 地政学的紛争から恩恵を受けるコモディティ 地政学的対立で恩恵を受けるコモディティ 地政学的対立で恩恵を受けるコモディティ 注目すべきは、米国が中国やEUと並んで産業政策を受け入れている点だ。特にバイデンの2.3兆ドルのアメリカン・ジョブズ・プランには約3,700億ドルのグリーン関連イニシアチブが含まれており、今年後半に議会を通過する可能性が高い。象徴的には、バイデンはアースデイの4月22〜23日に世界サミットを主催することで中国や欧州のグリーン施策に追いつこうとする米国の試みを強調するだろう。 英ポンドについて一言。我々は2月にポンドに対する景気循環的な強気見通しを戦術的に一時停止した。これは5月6日のスコットランド議会選挙を見越しての判断だ。スコットランド国民党が強い成果を示せば、第二回独立住民投票につながる可能性がある。この党は世論で勢いを失っているが、独立志向は再び高まっており、ナショナリストの驚きが投票箱で起き得るという我々の指摘を補強している（チャート 17）。第二回住民投票の見通しが明確になれば、中期的なポンドの見通しも明らかになるだろう。 チャート 17 スコットランド選挙で短期的リスクに直面するポンド 英ポンド、スコットランドの選挙で短期的なリスクに直面 英ポンド、スコットランドの選挙で短期的なリスクに直面 チャート 18 戦術的取引としての CHF‑GBP ロング 戦術的トレードのためのCHF-GBPロング 戦術的トレードのためのCHF-GBPロング 短期的には我々は戦術的な安全資産のトレードとヘッジを継続する。スイスフランの戦術的ロングは3月25日に5%でストップとなった。しかし当社の為替ストラテジスト、チェスター・ントニフォアはその後フランが過度に割安であることを指摘している（チャート 18）。今回は政治リスクと上述の英国の政治リスクを踏まえ、戦術的にCHF‑GBPのロングを推奨する。   Matt Gertken バイスプレジデント 地政学ストラテジー mattg@bcaresearch.com   脚注 1 “Jaw‑Jaw Is Best, Macmillan Finds,” New York Times, 1958年1月30日, nytimes.com. 2 Taiwan – Province of China.

ハイライト 継続中かつ予想される財政・金融刺激策とCOVID-19対策の進展を受けた世界成長の強まりは、主要データ提供者による今年の石油需要前提を押し上げています。 当社は本月の需給バランスで2021年の世界需要見積りを64万b/d引き上げて98.25mm b/dとし、OPEC 2.0が脆弱な回復を乱さないようにブレント価格を$60/bbl付近に保つための必要な調整を行うと想定しています。 当社の2022年および2023年のブレント予測はそれぞれ$65/bbl、$75/bblで維持します。 コモディティ市場は、米国、ロシア、中国およびそれらの関係国・同盟国を巻き込む武力衝突の高まる確率を無視しています。ロシアはウクライナ国境に軍を集結させ、米国に干渉するなと警告しました。中国はフィリピン沖に戦艦を集結させ、台湾の防空識別圏への侵入を続けており、米軍を緊張させています。意図的あるいは偶発的な交戦が発生すれば石油価格は急騰します。 価格は上下双方にリスクがあふれています。武力衝突のリスクに加え、ワクチン配布の加速は回復を前倒しし、当社予測を超える価格上昇をもたらす可能性があります。一方で、ブラジル、インド、欧州での死亡者数および入院者数の上昇が示すように、COVID-19によるロックダウン再発の下振れリスクは依然として存在します（今週のチャート）。 特集 石油需要推計—当社の推計も含め—は、主要経済におけるCOVID-19の抑制に向けた測定可能な進展と、特に米国発の潤沢な財政・金融刺激策を受けて回復しています。1 IMFのGDP上方修正を受け、本月の需給バランスで当社は2021年の世界需要見積りを64万b/d引き上げて98.25mm b/dとしました。当社のモデリングでは、脆弱な回復を損なわないようにブレント価格を$60/bbl付近に保つために、サウジアラビア王国（KSA）とロシアが主導する生産者連合であるOPEC 2.0が必要な調整を行うと想定しています。 通常とは異なり、石油需要回復の初期段階は先進国市場（DM）がけん引すると見ています。先進国の代理としてOECDの石油消費を用いています（チャート2）。その後、来年以降は新興市場（EM）経済が再び成長を主導し、2023年にかけて続きます。 今週のチャート COVID-19の死者数・入院者数が世界的回復を脅かす 原油価格の上振れリスクが高まっている 原油価格の上振れリスクが高まっている チャート2 先進国（DM）の需要が今年急増 DMの需要が今年急増 DMの需要が今年急増 OPEC 2.0の余剰生産能力の吸収 当社はサウジアラビア王国（KSA）とロシアが主導する生産者連合であるOPEC 2.0を市場で支配的な生産者としてモデリングし続けています。今年予想する成長はOPEC 2.0の余剰生産能力のかなりの部分を吸収する見込みであり、その大半—約8mm b/dのうち約6mm b/d—がKSAにあります（チャート3）。 主要生産国の余剰生産能力は、米国のシェール生産者がリグと人員を動員して新規生産を集積ラインや主要パイプラインに導入するよりも速く、回復する需要に対応することを可能にします。 当社は米国のシェール生産者を市場価格を受け入れるコホート（価格受容群）としてモデル化しており、市場が許す限り生産すると想定しています。2020年に9.22mm b/dまで落ち込んだ米国生産は、今年9.56mm b/d、2022年に10.65mm b/d、2023年に11.18mm b/dまで回復すると見ています（チャート4）。米国内コンチネンタル産（Lower 48）の生産成長はシェールが主導し、各年とも米国総生産の約80%を占める見込みです。 チャート3 コアOPEC 2.0の余剰生産能力がまず需要増に反応する OPEC 2.0のコア予備生産能力は需要の増加に最初に反応する OPEC 2.0のコア予備生産能力は需要の増加に最初に反応する チャート4 シェールは価格受容群における限界供給源 シェールは価格受容群における限界バレルである シェールは価格受容群における限界バレルである 供給面でのOPEC 2.0の支配的地位は、余剰生産能力が枯渇するまでは非連合生産者に経済的地代を奪われることを許さず、非連合生産者にとっては抑制要因となります。その後、価格受容群は資本を呼び込む能力が限られているため、内部留保から多くの探査・生産（E+P）活動を賄う可能性が高いと考えられます。株主は配当の維持・成長、あるいは株式買戻しによる資本還元を要求し続けるでしょう。これが収益性のある企業に生産成長を限定する要因になります。 当社はOPEC 2.0連合の生産規律が供給を需要のわずか下にとどめ、在庫が減少し続けるようにするだろうと見ています。これはCOVID-19パンデミックで需要が破壊されたにもかかわらず実際に起きたことです（チャート5）。これらのモデリング前提から、当社は供給と需要が2023年にかけて均衡へ向かって動き続けると予想しています（表1）。 チャート5 2021年の需給バランス 2021年の需給バランス 2021年の需給バランス 表1 BCA 世界原油 需給バランス（MMb/d、ベースケース） 原油価格の上方リスクが高まっている 原油価格の上方リスクが高まっている 当社はこの需給均衡化が恒常的な物理的不足を誘発し、在庫は2023年にかけて減少し続けると予想しています（チャート6）。在庫が取り崩されるにつれて、OPEC 2.0の支配的な生産者地位はブレントおよびWTIのフォワードカーブをバックワーデーションに保つことを可能にします（チャート7）。2 当社は2022年および2023年のブレント予測をそれぞれ$65/bbl、$75/bblで維持しています（チャート8）。 チャート6 OPEC 2.0の政策は供給を需要の下に置き続ける... OPEC 2.0政策は供給を需要より下回る水準に保ち続けている… OPEC 2.0政策は供給を需要より下回る水準に保ち続けている… チャート7 OECD在庫は2023年までに減少 OECD Inventories Fall to 2023 OECD Inventories Fall to 2023 チャート8 世界経済回復に伴いブレント予測は上昇 世界経済の回復に伴い、ブレントは上昇が予想される 世界経済の回復に伴い、ブレントは上昇が予想される 価格の両方向リスクが充満 当社見解には上振れおよび下振れのリスクが数多くあります。 上振れの例として、英国と米国のワクチン配布の立ち上げ方が示唆に富みます。 両国とも当初はつまづきました。特に米国は1月時点でも戦略が整っていないように見えました。米国が調達と配布を本格化させると接種率は急上昇し、現在では米国内で「通常の」独立記念日（Fourth of July）を迎える見通しにあるようです。英国は今週再開を開始しました。両国は2021年第3四半期に集団免疫を達成すると予想されています。3 調達と配布を誤ったEUは、英国と米国の教訓から利益を得て2021年第4四半期に集団免疫を達成するとマッキンゼーの調査は示しています。このスケジュールの前倒しは、より強い成長と当社予測を上回る石油価格につながるでしょう。 次の大きな課題は、パンデミックが加速し変異株の発生・拡散に理想的な環境を提供している新興経済地域（特にそのような地域）にワクチンを供給することです。ブラジル、インド、欧州での死亡者数・入院者数の上昇が示すように、大規模なCOVID-19によるロックダウンの再発リスクは依然として残ります。 戦の狼煙（Cry Havoc） 当社が見るもう一つの大きな上振れリスクは、米国、ロシア、中国およびそれらの関係国・同盟国を巻き込む武力衝突です。 現時点でコモディティ市場はこれらのリスクを無視しています。戦争のレベルには達していないにせよ、機動的な交戦―航空機が撃墜されたり南シナ海で艦船が交戦するような事態―の確率は日々高まっています。 これは驚くべきことではなく、当社の同僚であるBCAリサーチの地政学ストラテジー（Geopolitical Strategy）が最近指摘した通りです。4 実際、マット・ガートケン（Matt Gertken）が率いる当該サービスは、バイデン政権が就任直後からロシアと中国によってこの種の試練にさらされるだろうと警告していました。 ロシアはウクライナ国境に軍を集結させ、米国に干渉するなと警告しています。中国はフィリピン沿岸に軍艦を集結させ、台湾の防空識別圏への侵入を続けており、米軍を緊張させています。米露、米中間の政治対話はますます激しくなっており、近い将来に和らぐ兆しは見えません。意図的であれ偶発的であれ交戦が発生すれば戦争の遁走を許し、石油価格は一時的に急騰する可能性があります。 最後に、当社が想定するようにイランが核合意（すなわち共同包括的行動計画：JCPOA）を西側諸国と再締結できれば、イランは「正式な」石油輸出国としての復帰を余儀なくされ、OPEC 2.0はこれを受け入れざるを得なくなります。JCPOAは2018年に当時のトランプ大統領によって破棄されました。 これは困難を伴う可能性があります。当社は2014–16年の石油価格崩壊が、サウジが市場シェア戦争を仕掛けて価格を暴落させ、2010年末から2014年半ばにかけて続いた1バレル当たり$100超の価格をイランに許さないための行動だったと考えています。OPEC 2.0、特にKSAは米国–イラン交渉に公には関与していません。しかし2014年に開始された壊滅的な市場シェア戦争の後、KSAおよびOPEC 2.0はJCPOA後にイランの市場復帰を受け入れたことを想起する価値があります。   ロバート・P・ライアン チーフ コモディティ＆エネルギー・ストラテジスト rryan@bcaresearch.com アシュウィン・シャイアム リサーチアソシエイト コモディティ＆エネルギー戦略 ashwin.shyam@bcaresearch.com   コモディティ概況 エネルギー： 強気 ブレントとWTI価格は、EIAの週間石油在庫報告が2021年4月9週終わりで米国の原油・製品在庫が910万バレル減少したことを示した後に急騰しました。これは商業用原油と蒸留油在庫の大幅な取り崩し（それぞれ590万バレル、210万バレル）が主導しました。これらの取り崩しは過去一週間に主要データ機関（EIA、IEA、OPEC）による世界需要の概ね強気な上方修正を背景としています。これらの評価は、精製製品需要、すなわち「product supplied」が4月9週終わりで日量110万b/d跳ね上がったというEIAデータに裏付けられています。ジョンソン＆ジョンソンの接種問題という挫折があったにもかかわらずワクチン配布が勢いを増しており、在庫の取り崩しと需要改善が上昇の触媒となったようです。米ドルの弱含みや米国の実質金利低下も追い風になりました。 ベースメタル： 強気 今週初めニッケル価格は下落しました。中国の国営新華社通信が中国の李克強首相が上昇するコモディティ価格の中で原材料市場の規制強化の必要性を強調したと報じ、企業の業績に圧力がかかっているとのことでした（チャート9）。この発言は中国のトップ経済顧問である劉鶴が先週コモディティ価格の追跡を当局に求めた後に出たものです。ニッケル価格はこの報を受けて今週初めにトン当たり約$500下落し、ロンドン金属取引所の取引で火曜日終値時点で$16,114.5/MTで取引されていました。他のベースメタルはこのニュースの影響を受けませんでした。 貴金属： 強気 今週初めに発表された3月の米国インフレデータを受けて米ドルと10年物米国債利回りは低下しました。米国の消費者物価は約9年ぶりの大幅上昇を記録しました。インフレヘッジ需要と米ドル・債利回りの低下が金の購入における機会費用を下げたことが金価格を押し上げました（チャート10）。この不確実性と米国の財政刺激策によるインフレ圧力の高まりが金需要を増加させます。スポットのCOMEX金は火曜日終値で$1,746.20/ozで取引されていました。 穀物・ソフトコモディティ： 中立 USDAの報告によると、米国のトウモロコシ期末在庫は13.5億ブッシェルで、市場予想の13.9億ブッシェルや先月の省の1.50億ブッシェル推定を下回っています（agriculture.comの集計）。世界のトウモロコシ在庫は2.839億トンで、市場予想の2.845億トンおよび省の推定2.876億トンを下回りました。 チャート9 ベースメタルは強気に動く ベースメタルは強気になっている ベースメタルは強気になっている チャート10 金価格の上昇 金価格が上昇へ 金価格が上昇へ   脚注 1     当社が2021年4月8日に発表したUS-Russia Pipeline Standoff Could Push LNG Prices Higherをご覧ください。簡単に言えば、IMFは今年および来年の成長率見通しをそれぞれ6%と4.4%に引き上げ、2021年1月の更新時点と比べてほぼ1ポイントの上方修正を行いました。 2     バックワーデーションのフォワードカーブ—先物の期近価格が期先価格を上回る状態—は需給タイトさを示す市場のシグナルです。精製業者が将来よりも今の原油の入手を高く評価していることを意味します。これはちょうど投資家が明日引き渡される1ドル札に対して1ドルを支払うことを好み、1年後に引き渡される同じ1ドル札には今日98セントしか払わないかもしれないのと同じダイナミクスです。 3    マッキンゼー・アンド・カンパニーが2021年3月26日に発表したWhen will the COVID-19 pandemic end?をご参照ください。 4    BCAの地政学ストラテジーが2021年4月2日に発表した先見的な分析The Arsenal Of Democracyをご覧ください。同レポートは、バイデン政権は中国/台湾、ロシア、イラン、さらには北朝鮮に関する初期のストレス・テストに直面していると指摘しています。ゲーム理論は金融市場が台湾海峡での危機の60%の確率を無視できない理由を説明するのに役立ちます。全面戦争の確率は依然低いものの、台湾は世界で最も重要な地政学的リスクであり続けます。   投資見解とテーマ 推奨事項 戦略的推奨 タクティカルトレード コモディティ価格とプレイ参考表 2021年にクローズしたトレード クローズしたトレードの概要 より高いインフレが到来 より高いインフレが到来

Highlights A significant portion of Taiwanese equity outperformance is attributed to tech stocks and Taiwan Semiconductor Manufacturing Company (TSMC). Global semiconductor stocks are in a structural bull market. TSMC holds technological advantages over its competitors, securing for itself pricing power and higher return on equity. The most prominent risk to TSMC stock prices has been and remains a potential escalation in the US-China geopolitical and technological confrontation. A One-Horse Race Chart 1A Glaring Gap Between Tech And Non-Tech Stocks The Taiwanese bourse has been a one-horse race. Tech stocks in general and TSMC in particular have been responsible for the lion’s share of this stock market’s gains in the past two years. A glaring gap has emerged between the performance of tech stocks and the rest of this stock market, as illustrated in Chart 1. TSMC accounts for 31% of the TWSE index and 45% of the MSCI Taiwan equity index. All tech stocks constitute 61% of the TWSE index and a 75% of MSCI Taiwan equity index. Hence, the outlook for the Taiwanese stock index is by and large contingent on trends in the semiconductor industry in general and one company, TSMC, in particular.1 The Semiconductor Industry Global semiconductor demand has been booming and semiconductor shortages have become well publicized. Given lingering shortages and elevated backlog orders, it is reasonable to assume that the semiconductor sector in general and Taiwanese producers in particular will continue witnessing robust revenue growth. First, the Taiwanese manufacturing PMI for the electronic industry has continued rising; new orders have advanced to their previous highs and companies’ confidence in the 6-month outlook has surged to an all-time high for the series (Chart 2). Second, while some areas of semiconductor demand – like personal computers – might cool off after surging over the past 12 months, demand for chips from other areas such as server shipments, automobiles and smartphones will likely increase (Chart 3). Chart 2Taiwanese Semiconductor Industry Will Continue Booming Chart 3Key Segments Of Global Semiconductor Demand   Third, Chinese demand for semiconductors remains very robust (Chart 4). Even though we expect a slowdown in the Chinese “old economy,” the nation’s demand for semiconductors will continue expanding at a fast clip. The basis is rapid adoption of 5G technology, the ongoing large-scale automation pursuits and China’s major commitment to the adoption of the Internet of Things (IoT). Notably, China accounts for 34% of global semiconductor sales. Hence, continued vigorous demand in China will sustain the semiconductor boom. Chart 5 illustrates the sources of global semiconductor demand. Over the next 12 months, some segments might cool off, but others will accelerate. Overall, aggregate global semiconductor demand will remain robust. Chart 4Chinese Demand For Semiconductors Is Robust Chart 5Structure Of Global Semiconductor Demand   TSMC Stock There are many positives for this company: TSMC has become the worldwide technological leader in the production of small-sized chips. TSMC’s growing share in global semiconductor sales is a result of its technological leadership in semiconductors (Chart 6). TSMC is expected to become the first producer of 3nm chips by the end of this year. Its technological advantage guarantees TSMC a full order book for some time, and allows it to raise its prices. Chart 7 shows that not only have volumes been growing at a fast pace but also that TSMC’s selling prices have been rising briskly, reflecting the growing share of high-value semiconductors in the company’s product line. This trend is set to continue. Given the high-operational leverage, surging revenues are translating into booming profits. Chart 6TSMC: Rising Global Market Share Chart 7TSMC: Selling Volume And Prices   High-value semiconductors will be one of beneficiaries of the high inflation macro theme that we elaborated on in our recent special report, A Paradigm Shift In The Stock-Bond Relationship. Limited supply high-value chips will allow producers to raise prices considerably. Therefore, companies like TSMC will be a play on higher inflation. Chart 8 demonstrates TSMC’s revenue structure by product line. 51% of revenue originates from smartphones and 31% from high-performance computing. Both areas will continue using an ever-rising share of high value-added chips, benefiting TSMC top and bottom lines. Our profit margin proxy for Taiwanese semiconductor producers – calculated as selling prices divided by unit labor costs – points to rising EPS (Chart 9). Chart 8TSMC: Revenue By Product Lines Chart 9TSMC EPS And Profit Margin Proxy Chart 10TSMC: Capacity And Share Price Historically, one risk to semiconductor producers was an expansion in capacity during good times, which created overcapacity and oversupply. That led to lower selling prices which weighed on profits. The top panel of Chart 10 reveals that TSMC has been very conservative in expanding its capacity in recent years. This is in stark contrast to 2000 when its capacity surged. The latter and the ensuing demand decline led to a major plunge in profits and share prices. Such a scenario is not currently in the cards. Not only will semiconductor demand stay resilient for the next 12-24 months, but also TSMC has been very restrained in its capacity expansion. Besides, its technological superiority implies that there will be limited competition. This will benefit TSMC’s pricing power and profitability. Finally, TSMC’s equity valuations have expanded enormously. However, this stock is not yet extremely expensive, assuming its technological advantages are sustained and geopolitical risks – discussed below - are not realized. Specifically, the trailing P/E ratio is 30 and the forward P/E ratio is 26. Going forward, given that the return on equity will be structurally higher than in the past, higher multiples will be justified.  Bottom Line: Even though TSMC stock prices are very elevated and could correct from time to time, its business fundamentals are robust. The most prominent risk to this stock has been and remains geopolitics. Singular Risk: Geopolitics Chart 11Relative Share Prices Not only is Taiwan Territory at the epicenter of the US-China geopolitical confrontation, but TSMC itself is also caught in the middle between the China-US technological/semiconductor rivalry. Hence, any escalation in the US-China confrontation, which is inevitable in the long run, will have an impact on both Taiwanese stocks and TSMC. Our colleagues from BCA’s Geopolitical Strategy have recently highlighted that war cannot be ruled out and put a 60% probability to some kind of Taiwanese-focused geopolitical crisis over the next 12-24 months. According to them, it would take at least one of the following to heighten the war risk: the US providing the Taiwan Strait with offensive military resources; Chinese internal instability resulting in more aggressive actions beyond the mainland, or the Taiwan Strait seeking formal political independence. These are the reasons why we have been neutral, rather than overweight, on the Taiwanese bourse within an EM equity portfolio despite our more upbeat  view on the Taiwanese economy.   To sum up, from an economic and business fundamentals point of view, Taiwanese stocks warrant an overweight position in both EM and global equity portfolios (Chart 11). However, this bourse and TSMC stand to lose from an escalation in the US-China geopolitical and technological confrontation. The investment strategy should be to increase exposure to Taiwanese equities – particularly tech stocks – during selloffs driven by rising geopolitical risk premium unless the aforementioned geopolitical conditions for total war are met. Arthur Budaghyan Chief Emerging Markets Strategist arthurb@bcaresearch.com Vanessa Wong Ee Shan Research Associate vanessaw@bcaresearch.com Footnotes 1 Given that domestic economic conditions do not drive the Taiwanese stock market index, in recent years we have only covered Asia’s semiconductor sector and semiconductor stocks but have not set focus on the Taiwanese economy per se.

Highlights The Federal Reserve’s ultra-dovish stance is not the only reason for markets to cheer. The US is booming, China is unlikely to overtighten monetary and fiscal policy, and Europe remains a source of positive political surprises. Still, the cornerstone of this cycle’s wall of worry has been laid: Biden faces a series of foreign policy challenges, the US is raising taxes, China is tightening policy, and Europe’s stimulus is not large enough to qualify as a game changer for potential GDP growth. Stay the course by maintaining strategic pro-cyclical trades yet building up tactical hedges and safe-haven plays. Feature Chart 1US Stimulus, Chinese Tightening, German Vaccine Hiccups The US is turning to tax hikes, China is returning to structural reforms, and Europe is bungling its vaccine rollout. Yet synchronized global debt monetization is nothing to underrate. Especially not in the context of a Great Power struggle that features a green energy race as well as a high-tech race. Governments are generating a cyclical growth boom and it is conceivably that their simultaneous pump-priming combined with a new capex cycle and private innovation could generate a productivity breakthrough. This upside risk is keeping global equity markets bullish even as it becomes apparent that construction has begun on this cycle’s wall of worry. The US dollar bounce should be watched closely in this context (Chart 1). After passing the $1.9 trillion American Rescue Plan Act, which consists largely but not entirely of short-term cash handouts (Chart 2), President Joe Biden’s policy agenda will now turn to tax hikes. Thus far the tax hike proposals are in line with Biden’s campaign literature (Table 1). It remains to be seen whether the market will “sell the news” that Biden is pivoting to tax hikes. After all, Biden was the most moderate of the Democratic candidates and his tax proposals only partially reverse President Trump’s tax cuts. Chart 2American Rescue Plan Act Table 1Biden’s Tax Hike Proposals On The Campaign Trail Nevertheless higher taxes symbolize a regime change in the US – it is very unlikely tax rates will go down anytime soon but they could go easily higher than expected in the coming decade – and the drafting process will bring negative surprises, as Treasury Secretary Janet Yellen highlighted by courting Europe to cooperate on a 12% minimum corporate tax and halt the global race to the bottom in taxes on multinational corporations. At the same time Biden’s foreign policy challenges are rising across the board: China is demanding a rollback of Trump’s policies: If Biden says yes, he will sacrifice hard-won American leverage on matters of national interest. If he says no, the Phase One trade deal will be null and void, as will sanctions on Iran and North Korea, and the new economic sanctions on Taiwan will expand beyond mere pineapples.1 Russia is recalling its US ambassador: Biden vowed to make Russia pay for alleged interference in the 2020 US election and sanctions are forthcoming.2 The real way to make Russia pay is to halt the construction of the Nordstream II natural gas pipeline, which reduces the leverage of eastern European democracies while increasing Germany’s energy dependence on Russia. But Germany is dead-set on that pipeline. If Biden levies sanctions the centerpiece of his diplomatic outreach to Europe will be further encouraged to chart an independent course from Washington (though the rest of Europe might cheer). North Korea is threatening to restart missile tests: North Korea is pouring scorn on the Biden administration for trying to restart negotiations.3 The North wants sanctions relief and it knows that Biden is willing to offer it but it may need to create an atmosphere of crisis first. China would be happy were that to happen as it could offer the US its good services on North Korea instead of concrete trade concessions. Iran is refusing to rejoin negotiations over the 2015 nuclear deal: Biden has about five months to arrange for the US and Iran to rejoin the 2015 nuclear deal. Beyond that he will enter into another long negotiation with the master negotiators, the Persians. But unlike President Obama from 2009-15, he will not have support from Russia and China … unless he sacrifices his doctrine of “extreme competition” from the get-go. It is not clear which of these challenges will be relevant to financial markets, or when. However, with US and global equities skyrocketing, it must be said that the geopolitical backdrop is not nearly as reassuring as the Federal Reserve, which announced on Saint Patrick’s Day that it will not hike interest rates until 2024 even in the face of a 6.5% growth rate and the prospect of an additional, yet-to-be passed $2 trillion in US deficit spending. Herein lies Biden’s first victory. He has stressed that boosting the American economy and middle class is critical to his foreign policy. He envisions the US regaining its global standing by defeating the virus, super-charging the economy, and then orchestrating a grand alliance of European and Asian democracies to write new global rules that will put pressure on China to reform its economy. “I say it to foreign leaders and domestic alike. It's never, ever a good bet to bet against the American people. America is coming back. The development, manufacturing, and distribution of vaccines in record time is a true miracle of science.”4 The pandemic and economic part of this agenda are effectively done and now comes the hard part: creating a grand alliance while China and Russia demonstrate to their neighbors the hard consequences of joining any new US crusade. The contradiction of Biden’s foreign policy is his desire to act multilaterally and yet also get a great deal done. The Europeans are averse to conflict with China and Russia. The Russians and Chinese are not inclined to do any great favors on Iran or North Korea. Nobody is opening up their economy – Biden himself is coopting Trump’s protectionism, if less brashly. Cooperation with Presidents Xi Jinping and Vladimir Putin on nuclear proliferation is possible – as long as Biden aborts his democracy agenda and his trade agenda. We continue with our pro-cyclical investment stance but have started building up hedges as we are convinced that geopolitical risk will deliver a rude awakening. This awakening will be a buying opportunity given the ultra-stimulating backdrop … unless it portends war in continental Europe or the Taiwan Strait. In the remainder of this report we highlight the takeaways from China’s National People’s Congress as well as recent developments in Germany. Our key views remain the same: China will not overtighten monetary/fiscal policy; Biden will be hawkish on China; Germany’s election may see an upset but that would be market-positive. China: No Overtightening So Far China concluded its National People’s Congress – the “Two Sessions” of legislation every year – and issued its 2021 Government Work Report. It also officially released the fourteenth five-year plan covering economic development for 2021-25. Table 2 shows the new plan’s targets as compared to the just expired thirteenth five-year plan that covered 2016-20. Table 2China’s Fourteenth Five Year Plan (2021-25) For a full run-down of the National People’s Congress we recommend clients peruse BCA’s latest China Investment Strategy report. From a geopolitical point of view we would highlight the following takeaways: The Tech Race: China added a new target for strategic emerging industry value added as percent of GDP – it wants this number to reach 17% by 2025 but there is nothing solid to benchmark this against. The point is that by including such a target China is putting more emphasis on emerging industries, including: information technology, robotics, green energy, electric vehicles, 5G networks, new materials, power equipment, aerospace and aviation equipment, and others. China’s technological “Great Leap Forward” continues, with a focus on domestic production and upgrading the manufacturing sector that is bound to stiffen the competition with the United States. China’s removal of a target for service industry growth suggests that Beijing does not want de-industrialization to occur any faster – another reason for global trade tensions to stay high. Research and Development: For R&D spending, previous five-year plans set targets for the desired level. For example, over the last five years China vowed to increase annual R&D spending to 2.5% of GDP. A reasonable expectation for the coming five years would have been a 3% target of GDP. However, this time the government set a target of an annual growth rate of no less than 7% during 2021-2025. The point is that China is continuing to ascend the ranks in R&D spending relative to the US and West in coordination with the overarching goal of forging an innovative and high-tech economy. Unemployment: China has restored an unemployment rate target. In its twelfth five-year plan Beijing aimed to keep the urban surveyed unemployment rate below 5% but over the past five years this target vanished. Now China restored the target and bumped it up slightly to 5.5%. This target should not be hard to meet given the reported sharp decline in urban unemployment to 5.2% already. However, China’s unemployment statistics are notoriously unreliable. The real takeaway is that unemployment will be higher as trend growth slows, while social stability remains the Communist Party’s ultimate prize – and any reform or deleveraging process will occur within that context. The Green Energy Race: China re-emphasized its pledge to tackle climate change, aiming for peak carbon emissions by 2030 and carbon neutrality by 2060. However, no detailed action plans were mentioned. Presumably China will not loosen its enforcement of existing environmental targets. Most of these were kept the same as over the past five years, except for pollution (PM2.5 concentration). Previously the government sought to reduce PM2.5 concentration by 18%. Now the target is set at 10% aggregate reduction, which is lower, though further reduction will be difficult after a 43% drop since 2014. Overall, China has not loosened up its environmental targets – if anything, enforcement will strengthen, resulting in an ongoing regulatory headwind to “Old China” industries. Military Power: Last week we noted that the government’s goals for the military have changed in a way that reinforces themes of persistently high geopolitical tensions. The info-tech upgrades to the People’s Liberation Army were supposed to be met by 2020, with full “modernization” achieved by 2035. However, last October the government created a new deadline, the one-hundredth anniversary of the PLA in 2027 (“military centenary goal”). No specific measures or targets are given but the point is that there is a new deadline of serious importance – an importance that matches the party’s much-ballyhooed centennial on July 1 of 2021 and the People’s Republic’s centennial in 2049. The fact that this deadline is only six years away suggests that a rapid program of military reform and upgrade is beginning. The official defense spending growth target of 6.8% is only slightly bigger than last year’s 6.6% but these targets mask the significance of the announcement. The takeaway is that the Chinese military is preparing for an earlier-than-expected contingency with the United States and its allies. What about China’s all-important monetary, fiscal, and quasi-fiscal credit targets? There is no doubt that China is tightening policy, as we highlight in our updated China Policy Tightening Checklist (Table 3). But will China overtighten? Probably not, at least not judging by the Two Sessions, but the risk is not negligible. Table 3A Checklist For Chinese Policy Tightening The government reiterated that money and credit growth should remain in a reasonable range in 2021, with “reasonable range” referring to nominal economic growth. Chinese economists estimate that the nominal growth rate will be around 8%-9% in 2021. The IMF projection is 8.1%, while latest OECD forecast is at 7.8%.5 Because China’s total private credit (total social financing) growth is inherently higher than M2 growth, we would use pre-pandemic levels as our benchmark for whether the government will tighten policy excessively: If total social financing growth plunges below 12%, then our view is disproved and Beijing is over-tightening (Chart 3). If M2 growth plunges below 8%, we can call it over-tightening. Anything above these benchmarks should be seen as reasonable and expected tightening, anything below as excessive. However, the Chinese and global financial markets could grow jittery at any time over the perennial risk of a policy mistake whenever governments try to prevent excessive leverage and bubbles. As for fiscal policy, the new quotas for local government net new bond issuance point to expected rather than excessive tightening. New bonds can be used to finance capital investment projects. The quota for total new bond issuance is 4.47 trillion CNY, down by 5.5% from last year. Though local governments may not use up all of the quota, the reduction is small. In fact, total local government bond issuance will be a whisker higher in 2021 than in 2020. The quota for net new bonds is only slightly below the 2020 level and much higher than the 2019 level. Therefore the chance of fiscal overtightening is small – and smaller than monetary overtightening. Chart 3China Policy Overtightening Benchmark Chart 4China’s Real Budget Deficit Is Huge China’s official budget balance is a fiction so we look at the IMF’s augmented net lending and borrowing, which reached a whopping -18.2 % of GDP in 2020. It is expected to decrease gradually to -13.8% by 2025. That level will be slightly higher than the pre-pandemic level from 2017-2019 (Chart 4).6 By contrast, China’s total augmented debt is expected to keep rising in the coming years and reach double the 2015 level by 2025. Efforts to constrain debt could lead to a larger debt-to-GDP ratio if growth suffers as a consequence, as our Global Investment Strategy points out. So China will tighten cautiously – especially given falling productivity, higher unemployment, and the threat of sustained pressure from the US and its allies. US-China: Biden As Trump-Lite Chinese and US officials will convene in Alaska on March 18-19. This is the first major US-China meeting under the Biden administration and global investors will watch closely to see whether tensions will drop. So far tensions have not fallen, highlighting a persistent and once again underrated risk to the global equity rally. Biden’s foreign policy team has not completed its review of China policy and Presidents Biden and Xi Jinping are trying to schedule a bilateral summit in April – so nothing concrete will be decided before then. Chart 5US-China: Beijing's Standing Offer The Biden administration is setting up a pragmatic policy, offering areas to engage with China while warning that it will not compromise on democratic values or national interests. China would welcome the opportunity to work with the Americans on nuclear non-proliferation, namely North Korea and Iran, as this would expend US leverage on an area of shared interest while leaving China a free hand over its economic and technological policies. China at least partially enforced sanctions on these countries in response to President Trump’s demands during the trade war and official statistics suggest it continues to do so. Oil imports from Iran remain extremely low while Chinese business with North Korea is, on paper, nil (Chart 5). If this data is accurate then North Korea’s economy has not benefited from China’s stimulus and snapback. If true, then Pyongyang will offer partial concessions on its nuclear program in exchange for sanctions relief. At the moment, instead of staging any major provocations to object to US-Korean military drills, the North is using fiery language and threatening to restart missile tests. This suggests a diplomatic opening. But investors should be prepared for Pyongyang to stage much bigger provocations than missile tests. In March 2010, while the world focused on the financial crisis, the North Koreans torpedoed a South Korean corvette, the Chonan, and shelled some islands, at the risk of a war. The problem under the Trump administration was that Trump wanted a verifiable and durable deal of economic opening for denuclearization whereas the North Koreans wanted to play for time, reduce sanctions, study the data from their flurry of missile tests during the Obama and early Trump years, and see if Trump would get reelected before offering any concrete concessions. Trump’s stance was not really different from Bill Clinton’s but he tried to accelerate the timeline and go for a big win. By Trump’s losing the election North Korea bought four more years on the clock. Chart 6US-China: Biden Lukewarm On China The Biden administration is willing to play for time if it gets concrete results in phases. This would keep North Korea at bay and retain a line of pragmatic engagement with Beijing. But if North Korea stages a giant provocation Biden will not hesitate to use threats of destruction like Clinton and Trump did. The American public is not much concerned about North Korea (or Iran) but is increasingly concerned about China, with a recent Gallup opinion poll showing that nearly 50% view China as America’s greatest enemy and Americans consistently overrate China’s economic power (Chart 6). Biden will not let grassroots nationalism run his policy. But it is true that he has little to gain politically from appearing to appease China. With progress at hand on the pandemic and economic recovery, Biden will devote more attention to courting the allies and attempting to construct his alliance of democracies to meet global challenges and to “stand up” to China and Russia. The allies, however, are risk-averse when it comes to confronting China. This is as true for the Europeans as it is for China’s Asian neighbors, who stand directly in its firing line. In fact, Europe’s total trade with China is equivalent to that of the US (Chart 7). The Europeans have said that they will pursue tougher trade enforcement through the World Trade Organization, which would tie the Biden administration’s hands. Biden and his cabinet officials insist that they will use the “full array” of tools at their disposal (e.g. tariffs and sanctions) to punish China for mercantilist trade policies. Chinese negotiators are said to be asking explicitly for Biden to roll back Trump’s policies. Some of these policies relate to trade and tech acquisition, others to strategic disputes. We doubt that Biden will compromise on the trade issues to get cooperation on North Korea and Iran. But he will have to offer major concessions if he wants durable denuclearization agreements on these rogue states. Otherwise it will be clear that his administration is mostly focused on competition with China itself and willing to sideline the minor nuclear aspirants. Our expectation is that Americans care about the China threat and the smaller threats will be used as pretexts with which to increase pressure and sanctions on China. Asian equities have corrected after going vertical, as expected. But contrary to our expectations geopolitics was not the cause (Chart 8). This selloff could eventually create a buying opportunity if the Biden administration is revealed to take a more dovish line on China, trade, and tech in exchange for progress on strategic disputes like North Korea. Any discount due to North Korean provocations in particular would be a buy. On Taiwan, however, China’s new 2027 military target underscores our oft-recited red flag. Chart 7EU Risk Averse On China Chart 8Asian Equity Correction And GeoRisk Indicators Bottom Line: Investors should stay focused on the US-China relationship. What matters is Biden’s first actions on tariffs and high-tech exports. So far Biden is hawkish as we anticipated. Investors should fade rumors of big new US-China cooperation prior to the first Biden-Xi summit. Any major North Korean aggression will create a buy-on-the-dips opportunity. Unless it triggers a war, that is – and the threshold for war is high given the Chonan incident in 2010. Germany: Markets Wake Up To Election Risk – And Smile This week’s election in the Netherlands delivered a fully expected victory to Prime Minister Mark Rutte’s liberal coalition. The German leadership ranks next to the Dutch in terms of governments that received an increase in popular support as a result of the COVID-19 crisis (Chart 9). However, in Germany’s case the election outcome is not a foregone conclusion. Chart 9German Leadership Saw Popularity Bounce As we highlighted in our annual forecast, an upset in which a left-wing bloc forms the government for the first time since 2005 is likelier than the market expects. This scenario presents an upside risk for equities and bund yields since Germany would become even more pro-Europe, pro-integration, and proactive in its fiscal spending. In the current context that would be greeted warmly by financial markets as it would reinforce the cyclical rotation into the euro, industrials, and European peripheral debt. Incidentally, it would also reduce tensions with Russia and China – even as the Biden administration is courting Germany. Recent state elections confirm that the electorate is moving to the left rather than the right. In Baden-Wurttemberg, the third largest state by population and economic output, and a southern state, the Christian Democrats slipped from the last election (-2.9%), the Social Democrats slipped by less (-1.7%), the Free Democrats gained (2.2%), the Greens gained (2.3%), and the far-right Alternative for Germany saw a big drop (-5.4%). In the smaller state of Rhineland-Palatinate the results were largely the same although the Greens did even better (Tables 4A & 4B).7 In both cases the Christian Democrats saw the worst result since prior to the financial crisis while the Greens tripled their support in Baden and doubled their support in the Palatinate over the same time frame. Table 4AGerman State Elections Show Voters’ Leftward Drift Continues Table 4BGerman State Elections Show Voters’ Leftward Drift Continues To put this into perspective: Outgoing Chancellor Angela Merkel and her coalition have seen a net 6% increase in popular support since COVID-19. The coalition, led by the Christian Democratic Union and its Bavarian sister party, the Christian Social Union, still leads national opinion polling. What we are highlighting are chinks in the armor. The gap with the combined left-leaning bloc is less than 10% points (Chart 10). Chart 10German Party Polling Merkel is a lame duck whose party has been in power for 17 years. She is struggling to find an adequate successor. Her current frontrunner for chancellor-candidate, Armin Laschet, is suffering in public opinion, especially after the state election defeats, while her previous successor was ousted last year. Other chancellor-candidates, like Friedrich Merz, Markus Söder, and Norbert Röttgen may find themselves to the right of the median voter, which has been shifting to the left. Merkel’s party’s handling of COVID-19 first received praise and now, in the year of the vote, is falling under pressure due to difficulties rolling out the vaccine. Even as conditions improve over the course of the year her party may struggle to recover from the damage, since the underlying reality is that Germany has suffered a recession and is beset by global challenges. While the Christian Democrats performed relatively well in the 2009 election, in the teeth of the global financial crisis, times have changed. Today the Social Democrats are no longer in free fall – ever since their Finance Minister Olaf Scholz led the charge for fiscal stimulus in 2019 – while third parties like the Free Democrats, Greens, and Die Linke all gained in 2009 and look to gain this year (Table 5). In today’s context it is even more likely that other parties will rise at the ruling party’s expense. Still, the Christian Democrats have stout support in polls and do not have to split votes with the far-right, which is in collapse. Table 5German Federal Election Results Show 2021 Could Throw Curveball For Ruling Party Therein lies the real market takeaway: right-wing populism has flopped in Germany. The risk to the consensus view that Merkel will hand off the baton seamlessly to a successor and secure her party another term in leadership is that the establishment left will take power (the Greens in Germany are essentially an establishment party). Chart 11German Bunds Respond To Macro Shifts, State Elections Near-term pandemic and economic problems have caused bund yields to fall and the yield curve to flatten so far this year (Chart 11). But that trend is unlikely to continue given the global and national outlook. Election uncertainty should work against this trend since the only possible uncertainty gives more upside to the fiscal outlook and bond yields. If the consensus view indeed comes to pass and the Christian Democrats remain in power, the election holds out policy continuity – at least on economic policy. Fiscal tightening would happen sooner under the Christian Democrats but it would not be aggressive or premature, at least not in the 2021-22 period. It is the current coalition that first loosened Germany’s belt – and it did so in 2019, prior to COVID-19. Germany’s and the EU’s proactive fiscal turn will have a major positive impact on growth prospects, at least cyclically, though it is probably too small thus far to create a structural improvement in potential growth. Fiscal thrust is negative over next two years even with the EU’s Next Generation Recovery Fund being distributed. A structural increase in growth is possible given that all of the major countries are simultaneously pursuing monetary and fiscal stimulus as well as big investments in technology and renewable energy that will help engender a new private capex cycle. But productivity has been on a long, multi-decade decline so it remains to be seen if this can be reversed. Geopolitically speaking, Germany’s and the EU’s policy shift arrived in the nick of time to deepen European integration before divisions revive. Integration is broadly driven by European states’ need to compete on a grand scale with the US, Russia, and China. But Putin, Brexit, and Mario Draghi demonstrate the more tactical pressures: Brexit discourages states from exiting, especially with ongoing trade disputes and the risk of a new Scottish independence referendum; Putin’s aggressive foreign policy drives eastern Europeans into the arms of the West; and the formation of a unity government in Italy encourages European solidarity and improves Italian growth prospects. The outlook for structural reforms is not hopeless. Prime Minister Draghi’s government has a good chance of succeeding at some structural reforms where his predecessors have failed. Meanwhile French President Emmanuel Macron is still favored to win the French election in 2022, which is good for French structural reform. The fact that the EU tied its recovery fund to reform is positive. Most importantly the green energy agenda is replacing budget cutting for the time being, which, again, is positive for capex and could create positive long-term productivity surprises. Of course, structural reform intensity slowed just prior to COVID, in Spain, France, and Italy. Once the recovery funds are spent the desire to persist with reform will wane. This is clear in Spain, which has rolled back some reforms and has a weak government that could dissolve any time, and Italy, where the Draghi coalition may not last long after funds are spent. If the global upswing persists and Chinese/EM growth improves, then Europe will benefit from a macro backdrop that enables it to persist with some structural reforms and crawl out of its liquidity trap. But if China/EM growth relapses then Europe will fall back into a slump. Thus it is a very good thing for Europe, the euro, and European equities that the US is engaged in an epic fiscal blowout and that China’s Two Sessions dampened the risk of overtightening. Incidentally, if the German government does shift, relations with Russia would improve on the margin. While US-Russia tensions will remain hot, German mediation could reduce Russia’s insecurity and lower geopolitical risks for both Russia and emerging Europe, which are very cheaply valued at present in part because they face a persistent geopolitical risk premium. Bottom Line: German politics will drive further EU integration whether the Christian Democrats stay in power or whether the left-wing parties manage a surprise victory. Europe will have to provide more fiscal stimulus but otherwise the global context is favorable for Europe. Investors should not be too pessimistic about short-term hiccups with the vaccine rollout. Investment Takeaways The US is stimulating, China is not overtightening, and German’s election risk is actually an upside risk for European and global risk assets. These points reaffirm a bullish cyclical outlook on global stocks and commodities and a bearish outlook on government bonds. It is especially positive for global beneficiaries of US stimulus excluding China, such as Canada and Mexico. It is also beneficial for industrial metals and emerging markets exposed to China over the medium term, after frenzied buying suffers a healthy correction. Any premium in European equities should be snapped up. However, the cornerstone has been laid for the wall of worry in this global economic cycle: the US is raising taxes, China is tightening policy, and Europe’s fiscal stimulus will probably fall short. Moreover a consensus outcome from the German election would be a harbinger of earlier-than-expected fiscal normalization. There is not yet a clear green light in US-China relations – on the contrary, our view that Biden would be hawkish is coming to pass. Biden faces foreign policy tests across the board and now is a good time to hedge against the inevitable return of downside risks given the remorseless increase in tensions between the Great Powers. Housekeeping A number of clients have written to ask follow-up questions about our contrarian report last week taking a positive view on cybersecurity stocks despite the tech selloff and a positive view on global defense stocks, especially in relation to cybersecurity. The main request is, Which companies offer the best value? So we teamed up with BCA’s new Equity Analyzer to highlight the companies that receive the best BCA scores utilizing a range of factors including value, safety, payout, quality, technicals, sentiment, and macro context – all relative to a universe of global stocks with a minimum market cap of $1 billion. The results are shown in the Appendix, which we hope will come in handy. Separately our tactical hedge, long US health care equipment versus the broad market, has stopped out at -5%. This makes sense in light of the pro-cyclical rotation. Health care equipment is still likely to outperform the rest of the US health care sector amid a policy onslaught of higher taxes, government-provided insurance, and pharmaceutical price caps.   Matt Gertken Vice President Geopolitical Strategy mattg@bcaresearch.com   Yushu Ma Research Associate yushu.ma@bcaresearch.com   Appendix Appendix Table ABCA Research Equity Analyzer Casts Light On Best Defense And Cybersecurity Stocks Appendix Table BBCA Research Equity Analyzer Casts Light On Best Defense And Cybersecurity Stocks Appendix Table CBCA Research Equity Analyzer Casts Light On Best Defense And Cybersecurity Stocks Footnotes 1 China is asking for export controls that have hamstrung Huawei and SMIC to be removed as well as for sanctions and travel bans on Communist Party members and students to be lifted. See Lingling Wei and Bob Davis, "China Plans To Ask U.S. To Roll Back Trump Policies In Alaska Meeting," Wall Street Journal, March 17, 2021, wsj.com; Helen Davidson, "Taiwanese urged to eat ‘freedom pineapples’ after China import ban," The Guardian, March 2, 2021, theguardian.com. 2 "Putin on Biden: Russian President Reacts To US Leader’s Criticism," BBC, March 18, 2021, bbc.com. 3 Pyongyang is likely to test a new, longer range intercontinental ballistic missile for the first time since its self-imposed missile test moratorium began in 2018 after President Trump’s summit with leader Kim Jong Un. See Lara Seligman and Natasha Bertrand, "U.S. ‘On Watch’ For New North Korean Missile Tests," Politico, March 16, 2021, politico.com. 4 See ABC News, "Transcript: Joe Biden delivers remarks on 1-year anniversary of pandemic", ABC News, Mar. 11, 2021, abcnews.com. 5 Please see IMF Staff, "World Economic Outlook Reports", IMF, Jan. 2021, imf.org and OECD Staff, "OECD Economic Outlook, Interim Report March 2021", OECD, March 9, 2021, oecd.org. 6 Please see IMF Asia and Pacific Dept, "People’s Republic of China : 2020 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for the People's Republic of China", IMF, Jan. 8, 2021, imf.org. 7 The other state elections coming up this year will coincide with the federal election on September 26, with one minor exception (Saxony-Anhalt). Opinion polls show the Christian Democrats slipping below the Greens in Berlin and the Social Democrats in Mecklenburg-Vorpommern. The Alternative for Germany is falling in all regions.