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TRADING AMBITIONS MAKING SENSE OF TENSE TIMES; Markets are increasingly immersed in political risk, writes Ian Hall.

Byline: Ian Hall

This week's European Parliament elections come at a time when the political risks to the global economy seem to sprout from every trade row, tariff threat and tweet.

When voters go to the polls in 28 member states, rather surreally including the Brexit-bound UK, they are expected to give the latest kicking to mainstream parties. Continental institutions that once looked relatively stable will lurch again into introspection as 'Europe' seeks to renew its purpose.

Ultimately there are limits to the European Parliament's clout. But the election results are likely to be analysed as being illustrative of a global political economy where old certainties seem to be breaking down. For markets, this means greater risk.

MORE PERMANENT RISK Mohamed El-Erian, the prominent financial commentator and chief economic advisor to Allianz, made this point last week in London, when he gave a keynote speech at the CFA Institute's Annual Conference.

Addressing the CFA event - appropriately titled 'Disruption: The New Reality in Investment Management' - El-Erian described a world in which people and organisations increasingly struggle to make sense of what the future may hold.

"Layer after layer after layer of things going wrong in the system that makes it less stable, more unpredictable and subject to sudden disruptions," El-Erian told the audience, describing how advanced economies - previously the bulwarks of the global economy - are now themselves major sources of unpredictability.

Within Europe alone all counties face political and societal challenges that enmesh with economic challenges: the UK's political system is paralysed by Brexit; Italy has western Europe's first anti-establishment government; and Germany is suffering a significant economic slowdown.

The divergent performance of advanced economies has, El-Erian told the conference audience, huge implications for "how we think about business, investment and risk management". William Wright, MD of think-tank New Financial, reflects that political risk and financial markets have always gone hand-in-hand - and financial markets have often flourished on the back of it.

But Wright tells City A.M. that the difference today is twofold. "First, global financial markets are much more interlinked with each other and with local economies, which amplifies risk," he reflects. "And second, political risk is more permanent than before: the risk a repeat eurozone crisis has never quite gone away since 2011, while Brexit is likely to hang over the financial markets for many years to come."

GLOBAL TENSIONS Europe's political concerns and feeble economic growth are set in the context of rising global political tensions.

The US and China have been locked a trade war since last year, slapping billions of dollars-worth of tariffs on each other's goods. The dispute between the world's two largest economies escalated further last week.

This increasingly volatile world is not helpful to anyone looking to make sensible, strategic investments. "Collectively, global political risk is probably the highest in living memory in terms of market impact," Gaurav Saroliya, director of macro strategy at global forecasting and quantitative analysis firm Oxford Economics, tells City A.M. "In the two decades before Donald Trump became US president, typical market-movers from the perspective of (geo-) political risk were things such as military conflicts in the Middle East and the impact on the oil price. Events like partisan stand-offs in the US relating to matters such as the debt ceiling were far overwhelming majority of geopolitical dynamics that matter are heading in the wrong direction: relationships and institutions 'won't collapse tomorrow, but the risks plaguing them are landmines'.

El-Erian concluded his speech at last week's CFA conference with his own predictions, including that: national security will become a more important determinant of economic policy, particularly in trade negotiations; investment professionals should reconsider conventional wisdom - for example, cash should not necessarily be perceived as a dead asset, as it's "the only risk-mitigator that really works, plus it gives you optionality"; and central banks will themselves become a source of instability, "moving from being part of the solution to becoming part of this greater complexity".

A politically divided Europe, then, is just one concern amid a whole world of worries.

less consequential for markets. But, in today's age of populism, political risk appears in multiple shapes and forms - US exceptionalism by the Trump administration, fiscal indiscipline by Italy - with much more powerful effects on financial markets," Saroliya says.

PREDICTIONS TIME How pressing are these concerns? Eurasia Group, which specialises in political risk analysis and consulting, said as the year got underway that - actually - 2019 was, despite the headlines, 'poised to be a reasonably good year. even, dare we say it, not a particularly politically risky year'.

With such predictions, though, there's often a sting in the tail. 'We're setting ourselves up for trouble down the road. Big trouble. And that's our top risk,' Eurasia went on to predict. The

The divergent performance of advanced economies has huge implications


Financial markets have often flourished on the back of political risk
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Publication:City AM (London, England)
Geographic Code:4EUUK
Date:May 21, 2019
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