This week we turn the spotlight away from economics to look at geopolitics. Geopolitics is the key driver behind today’s economic developments which in turn are having a measurable outcome on investments. 

OPEC refuses to play Biden’s ball  

As the global economy weakens, oil prices have been slackening too from their peak approaching $150 per barrel in May. OPEC met in Vienna on Wednesday to discuss production quotas. With Saudi Arabia leading the way, it agreed to a reduction of 2m barrels per day, the equivalent of around 2% of global daily output. In a finely tuned market, such small changes can have a pronounced effect; the price of Brent crude at $95 per barrel is already $10 higher than it was a week ago. In its own economic interests, Saudi would like to see the price restored above $100. However unhelpful and uncomfortable, OPEC’s policy response is pragmatic: demand is slowing, inventories are rising, so restrain production.

 

Politically, however, it is a very pointed snub to President Biden. In a combined attempt to curb inflation and to limit the price of oil that Russia was able to charge to customers such as China and India (earning significant revenues to fund its war in Ukraine), Biden virtually begged Saudi to open the taps and flood the market with cheap oil. That appeal was firmly rebuffed in the summer (to be fair, Boris had a go too at persuading the Saudis, also to zero effect). Saudi feels aggrieved that the US continues to ‘disrespect’ the Kingdom by prioritising the need to do a deal with Iran to readmit the US to the Iranian nuclear containment treaty at the cost of diplomatic relations with Saudi. Saudi Arabia and Iran are engaged in a long-running proxy war in Yemen, Iran backing the rebel Houthis while Saudi supports the Yemeni government. That the Iranian deal is dead in the water again is beside the point from a Saudi perspective; it is the US sentiment (or lack of it) that counts. The position is complicated by western repugnance communicated to Saudi about its state-ordered assassination of dissident journalist Jamal Khashoggi in Turkey in 2018.

 

Whether the new production cut represents Saudi supporting Russia, as alleged in America, or simply refusing to kow-tow to the United Sates, depends very much on one’s point of view. However, to try and limit the effect on the oil price, Biden has ordered further releases of stocks from the US Strategic Petroleum Reserve, but experts reckon any mitigating impact will be of limited duration. 

Gas presents a wide and significant political challenge  

Energy continues to preoccupy European politicians as we head inexorably to winter. Someone (Russia? America? Little green men from Mars, perhaps? Who knows!) has blown up stretches of both the Nord Stream 1 and Nord Steam 2 sub-Baltic gas pipelines in the same area off the Danish coast. The remaining land-pipes to western Europe from the Russian gas fields are all but closed. Gas rationing is being openly discussed alongside the introduction of a plethora of increasingly large and creative economic initiatives to limit the damage to consumers and industry as governments intervene directly in energy markets.

 

We have discussed Liz Truss’s UK approach in earlier columns. However, last week’s latest €200bn German intervention to limit fuel bills adds a new twist as Germany’s inflation rate tips 10% and exceeds our own. A complex package, the key feature is that in fiscally conservative Germany, in which it is illegal to set a budget with a planned deficit, the government’s opponents claim that it is only by way of smoke-and-mirrors accounting that the proposal is even presentationally the right side of the national debt-brake laws. Economically and politically, there is nothing straight forward confronting Putin’s malign influence. 

European summit: hot air or real substance?  

On which subject, the inaugural European Political Community summit in Prague attended by Liz Truss on Thursday was curious. An EU initiative, it included not only the 27 members of the Union, but 17 other ’European’ countries spanning all the way from Iceland in the west to Azerbaijan in the east. Seeking to discuss common areas of interest including energy, defence and other geopolitical issues, it remains to be seen whether this one-day jamboree of 40-plus leaders has any greater substance and duration than a convenient talking shop.

 

However, in a new-found spirit of Entente Cordiale, at least Truss and France’s Emmanuel Macron have agreed to re-set Anglo-French relations, leaving the summit apparently as best bosom buddies. That can only be a good thing. How long the national and personal rapprochement lasts is another question altogether. True colours or genuine resolve to be constructive will be revealed and tested in the nitty-gritty of post Brexit negotiations resuming over the toxic subject of the Northern Ireland Protocol.

 

In inheriting the mantle of Boris as NATO’s cheerleader-in-chief for Ukraine and President Zelensky, it was Truss’s opportunity to demonstrate clear leadership in preserving the unity of the western response to Russia. As our former Foreign Secretary, at least she was already a known quantity to other European leaders. She won warm public plaudits from the prime ministers of the Netherlands and Latvia, abroad at least a positive start in her new position.

 

But that European unity is being tested: Italy’s new right wing government is convinced that western sanctions against Russia are doing more damage to Italy than they are to the Kremlin, a deal must be done with Putin; Hungary, like Italy a member of both the EU and NATO, has already signed a new sanction-busting gas agreement with Putin; Germany is under hostile fire from NATO allies for its general foot-dragging and its specific refusal to send much needed heavy armour from its mothballed stocks to help Ukraine with persistent questions as to why it is so reluctant. As we head into what is going to be a long, testing, politically challenging and chilly winter, tensions in the western camp are only likely to increase unless Putin’s operation collapses. 

Pondering the consequences of Putin  

So to Putin himself. He’s in a hole. As the old saying goes, when in a hole, it’s best to stop digging. He is doing the opposite: digging a deeper one. His military campaign is shambolic, a combination of poor strategy, inept execution and a total underestimation of Ukrainian resolve not to be overrun. His mobilising 300,000 ‘reservists’ is in effect virtual conscription and proving very unpopular (which in a speech this week he was forced to admit: it had “not gone to plan”). His clearly rigged referenda precluding the annexation of four oblasts in the Donbas and Crimea claim these territories to be sovereign Russian ground; the reality is that with the possible exception of Crimea, he is neither in physical nor political control of any of them. He threatens nuclear use, but where and to what end? Would he dare?

 

Political criticism is mounting within his own support camp, both military and civil, and while national polls suggest approaching 70% of the population is still supportive of the Ukrainian gambit, the percentage is declining and the data set is suspect. Predicting Putin’s political end is a game of wishful thinking. Were it to happen, however welcome, beware what follows (i.e. who would take over? Politicians willing to do a deal with the West, to ‘off-ramp’ Russia? Or even more malign influences determined to preserve the kleptocracy which supports modern Russian society?).

 

But let us speculate on the game of unintended consequences. Were Putin to be removed today, while there might be much celebration, what we have to be wary of is what happens next both in Russia and on its periphery. The Kremlin-affiliated states in the Federation, notably Georgia and Chechnya in the Caucasus, as well as the Stan-suffixed countries spanning central Asia (the Uzbeks, Tajiks, Kyrgyz and Kazakhs) are all in an immensely strategically sensitive area and in close proximity to three, potentially four nuclear powers: China, India, Pakistan and in all but name, Iran. They are also potentially fertile breeding grounds for non-state organisations such as Daesh, Al Qaeda and others. Further, alongside Siberia, they are all rich in those various rare earth minerals which will be much in demand for a carbon net-zero society. Whoever controls those sources of materials, and the head waters for the major central Asian freshwater systems originating in the Himalaya/Karakoram/Hindu Kush mountain belt, has a significant geopolitical advantage. China, already investing through the New Silk Road, will certainly seek further direct leverage but is unlikely to be alone. We might be focusing on Taiwan as the next military flash point but the West needs to be alive to others which are just as significant and potentially much bigger in scale. Vacuums are always there to be filled: it is a question of who fills them. 

America and China: A Tale of Two Systems  

And finally, to the world’s super-powers. In the US, Joe Biden faces the electorate in the mid-term elections on November 8th. One third of the Senate seats are being contested and all 435 seats in the House of Representatives. With the White House not up for grabs, essentially the mid-terms are a plebiscite on the performance of the incumbent President, and either an endorsement or a warning-shot across the bows ahead of the Presidential election in November 2024. Currently the Senate is split 50:50, the Democrats relying on the casting vote of the Vice President to get its business through. The House has a narrow Democrat majority.

 

After what has been widely derided as a woeful period in office, over-promising and under-delivering and reaching a low when NATO was kicked out of Afghanistan in August last year, Biden has recovered some political ground recently. His newly enacted climate change incentive plan combined with a watered-down welfare package (together aspiringly and possibly optimistically named the “Inflation Reduction Act”), combined with the straightforward and politically shrewd electoral bribe of his significant “debt forgiveness” policy eradicating $10k per head of all outstanding student debt (double that if on a welfare scheme) have seemingly arrested his decline, though he still has a substantial negative personal approval rating. If up until a few months ago the polls were anticipating a disaster for the Democrats being likely to lose both the House and the Senate, they currently suggest a tighter contest. By this time next month we will know whether what remains of his time in office is a lame-duck presidency, or if it still has some substance, albeit requiring much political horse trading in the process to achieve much.

 

In Beijing, next weekend, October 16th sees the 20th National Congress of the Chinese Communist Party. Having been officially anointed Core and Helmsman and his political principles (‘Thoughts on Socialism with Chinese Characteristics for a New Era’) already included in the Party handbook, General Secretary Xi will be appointed for an unprecedented third term having previously persuaded conference to remove the two-term limit (not entirely coincidentally announcing himself in sole command of the armed forces and security services beforehand). Despite significant structural challenges facing the Chinese economy including stagnant growth, a distinctly wobbly housing market and 20% youth unemployment (think of the significance of that in the context of a Communist command economy), the thinly veiled narrative will be one of follow-your-leader-you-know-it-makes-sense, the steadiness and supremacy of the CCP, complete confidence in Chinese socialism and a reiteration of the New World Order, contrasting China favourably with the decay, decadence and indecision of the West. The recovery of Taiwan is a given: even Western intelligence agencies now see it as “when and how” not “if.” 

Investor Relevance?  

It is easy to get bogged down in the cost-of-living-crisis, domestic car-crash politics and the Tories deciding whether self-evisceration or immolation is the fastest way to political oblivion. But the investment environment has been driven not only by a decade and more of applying alternative, unorthodox economic theory across the western democracies with all its obvious consequences today, but the slow burning fuse of the shifting geopolitical tectonic plates resulting in a major conflict in Europe, and all compounded by a pandemic. Those political plates are still on the move, the effects daily seen in risk premia in equities, the upending of term premia in bonds and the current dominance of the dollar in currency markets. It all matters!

 

The Jupiter Merlin Portfolios are long-term investments; they are certainly not immune from market volatility, but they are expected to be less volatile over time, commensurate with the risk tolerance of each. With liquidity uppermost in our mind, we seek to invest in funds run by experienced managers with a blend of styles but who share our core philosophy of trying to capture good performance in buoyant markets while minimising as far as possible the risk of losses in more challenging conditions. 

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