Spotlight on a fragmenting world: Geopolitical shifts and consequences for investors

Former US president and 2024 presidential nominee Donald Trump speaks at a campaign rally with US senator and vice-presidential nominee JD Vance at Van Andel Arena in Grand Rapids, Michigan, on July 20, 2024. Photo: AFP

Former US president and 2024 presidential nominee Donald Trump speaks at a campaign rally with US senator and vice-presidential nominee JD Vance at Van Andel Arena in Grand Rapids, Michigan, on July 20, 2024. Photo: AFP

Published Jul 22, 2024

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By Kondi Nkos and Azad Zangana

What does the shift towards more nationalist politics in the recent European parliamentary elections mean for global markets and economies?

Does it accelerate or dampen changes already seen since 2016, a significant year geopolitically when the UK voted to leave the European Union (EU) and Donald Trump won his first US election?

These, and subsequent events, such as Covid and Russia’s invasion of Ukraine have tested the world economic order.

Economic and market risks of “fantasy fiscal politics”

From the beginning of the Thatcher-Reagan-era until 2016, the basic idea of government was stay out of the way of the economy, privatise, liberalise, free trade.

Since 2016, we’ve been in a different world, and nobody quite knows what the outcome is going to be yet, and what the new equilibrium is going to be. One of the major questions is whether the new currents of popular discontent become integrated into the existing framework, à la Italy’s prime minister Giorgia Meloni or whether they become destructive.

These new nationalistic political currents could certainly see a more populist tilt to fiscal plans, which typically means more spending, tax cuts, and looser fiscal policy.

This should actually be quite good for economies and stock markets, as long as they don’t lose the confidence of the bond market, and the bond market continues to be reasonably well-behaved.

When such plans lose the confidence of the bond market, we end up in a “Liz Truss moment”.

We then suddenly have austerity coming back with vengeance, which ends up being very negative for those economies. There’s a very difficult balancing act. Italy seems to have found the correct side of the bond market.

But aside from short-term volatility, the key thing about elections and politics is to think about their potential long-term implications.

At Schroders, we believe that ultimately, the returns from assets depend upon demographics, technological innovation, investment, artificial intelligence (AI), and climate change. Those are the things that impact long-term returns. You often find that most elections don’t have a huge impact upon long-term return drivers, but they can create short-term volatility that we have to be mindful of.

Does the green transition take a back seat?

Unfortunately, the consensus position is that the European-level push for a green industrial policy is going to get “nixed”. That has a huge implication on potential long-term returns due to the effect of rising temperatures on different countries, and the impact that it has upon output and productivity.

If you don’t have Europe leading on the climate agenda, and you therefore slow down the move to dealing with climate change, it has implications for long-term returns and some companies. There will be some winners and losers in a way that we haven’t had over the past 15 years, where you’ve often seen very high correlation within sectors.

We are seeing some discounts in some areas as the global market is already pricing in a move away from green pledges. For the property sector this could be things like flood risks. For insurers it could mean having to pay out a lot more than they have previously for certain climate-related events.

New direction for European green policies?

One of Europe’s biggest mistakes in the past decade was focusing too much on carbon pricing – the “stick” to punish people for using fossil fuels.

One thing that we learnt with the introduction of the Inflation Reduction Act (IRA) in the US was that subsidies are more popular than taxes. They do exactly the same thing: close the gap between the cost of renewable energies and fossil fuels. The EU’s Carbon Border Adjustment Mechanism is a potential fix, especially if we can see some multilateral agreement here. It’s encouraging that the UK, Canada, and even the US are also looking at similar schemes.

Avoiding losers as the economic regime shifts

Supply chains are changing across the board and the shift from the previous regime will herald winners and losers in terms of companies.

Naturally, this situation lends itself to taking an active approach to fund management and take advantage of divergence in companies’ success in adapting to the changing regime.

Kondi Nkosi is the country head South Africa at global investment manager Schroders, and Azad Zangana is a senior European economist and strategist at Schroders.

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