(MENAFN- DailyFX) US Dollar, US-China Trade War, Taiwan-Iran Nuclear Deal, – TALKING POINTS
- COVID-19, the rise in interest rates likely to amplify geopolitical risk shocks
- U.S.-Chinese tension and upcoming U.S. midterm elections top the list
- Iran nuclear deal, precarious fundamentals could amplify market turbulence
2022 stock market outlook: geopolitical risks could dampen investor enthusiasm
Given the confluence of COVID-19 and rising interest rates, geopolitical shocks in 2022 could have a disproportionate effect on market activity. As noted in my guide to trading political risk, when fundamentals are weak and the buffer of economic prosperity is eroded, the effects of adversarial international relations run deeper and wider.
Midterm elections in the United States
After the blue wave that filled the US House and Senate with Democrats, the markets initially cheered. At the time, investors expected more government spending bills to pass due to both the party’s predilection for it and their occupation of the two legislative drafting bodies. The lack of alignment and the blocking of major fiscal expansion plans have been an unforeseen risk.
The Build Back Better law, which would inject more than $ 1.7 trillion in social spending – such as funding for preschool education and parental leave – has been blocked, mainly by Senator Joe Manchin. His protests against the bill resulted in numerous delays and left many Democrats and their constituents disappointed with the lack of progress. This could prove crucial in November.
The disappointment of leading voters at the Democratic administration’s lack of progress will likely be used by the Republican Party to tip the balance of power. Additionally, Donald Trump’s peripheral presence (via joint campaign or support) can add another layer of complication to the political landscape.
Mr. Trump’s presidency has fractured the Republican Party, and even now its ideological poltergeist continues to divide the group and polarize politics as a whole. However, Democrats also face an internal divide between more radical elements and those in the older guard who are reluctant to lose centrist voters to their Republican counterparts.
Key states to watch will be Arizona, Wisconsin, Pennsylvania, Georgia, Nevada, North Carolina, Ohio, New Hampshire and Florida. The latter will be particularly important, given Gov. Ron DeSantis’ growing popularity among Republicans amid his hands-off handling of COVID-19. Rumors are circulating that he could run for president in 2024. Either way, the markets will be watching the midterm elections closely.
Midterm Elections Map
The interactive map is available here
From a market perspective, the prospect of a divided Congress (or, less likely, an all-red legislature) is a major downside risk. If a one-party Congress can’t pass big bills, a split would make things even more difficult. The prospect of further delays in invoices could seriously hurt stocks and push the safe-haven US dollar higher.
The big game: Sino-American competition intensifies
In addition to the major expense bill, the Biden administration is also setting aside around $ 250 billion for research and development. It’s part of a larger effort to counterbalance China’s growing global stature in the political, economic and technological fields. The other major sticking points concern Taiwan and trade.
With the latter, the Biden administration is evaluating its response to Beijing’s failure to abide by the Phase 1 trade deal it ratified during Mr. Trump’s tenure. According to the Peterson Institute for International Economics, the Asian giant has underbought American products by almost 50%. Mr Biden must now determine the best course of action given the national and international implications.
If he were to continue with tariffs, it could further fuel the inflation fires and hurt the US domestic economic outlook. On the other hand, not to rush China would risk appearing soft at a time when Beijing is stepping up its game and deploying “Wolf Warrior” diplomacy. China’s growing aggression can be best illustrated by its encroachment on the sovereignty of Taiwan and disputed parts of the South China Sea.
Already at the start of the new year, the leaders of Beijing and Taipei were not so subtly signaling to each other that their convictions were firm. Taiwanese President Tsai Ing-wen warned against Chinese “military adventurism”, while his mainland counterpart, President Xi Jinping, said the complete reunification of “the homeland” was a mutual desire shared by the two peoples from both countries.
With the United States focusing more on controlling China, investors will closely monitor all key foreign policy actions of the two superpowers. While open war is highly unlikely, economic sanctions and other policies that can tilt market sentiment toward risk aversion appear to be a growing risk.
International surges could briefly push the US dollar and Japanese yen higher at the expense of stocks, especially those whose growth depends on access to the Chinese market. Specifically, companies eager to access the Asian giant’s growing middle class could suffer. Frictions between Beijing and Washington could see the former consolidate further its position as a regional power.
To find out more about the major political trends, do not hesitate to follow me on Twitter ZabelinDimitri
US-Iran nuclear deal
Following a largely planned exit from Afghanistan, Washington’s need for a foreign policy victory – especially in the region – has been signaled as necessary to bolster Mr Biden’s popularity. Failure here would not only give Republicans additional ammunition ahead of the midterm elections, but it would also increase the likelihood of politically motivated oil supply disruption risks.
We have seen this repeatedly throughout 2019 and early 2020, and there is a high likelihood that such disruptions will happen again. Major sticking points remain, one of which is Tehran’s demand for a legal guarantee that Washington will honor the agreement. Western diplomats have reportedly said such demands indicate Iran is “not serious” about nuclear talks.
While the timeline for a restoration or disbandment is unclear, what is almost certain is the need for the Biden administration to have a response before November. In the meantime, crude oil prices will continue to track fundamentals amid COVID-19. However, the political turmoil would likely trigger a significant volatility episode.
Written by Dimitri Zabelin for DailyFX
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