By: Steven Yamshon, Ph.D., Managing Principal
It isn’t often that we talk about geopolitical events, but it has great relevance because geopolitical events affect economies. Until shortly, after World War II, the economic courses taught in the universities were not split into macroeconomics and microeconomics. It was taught as just plain economics and was often labeled political economy. Why on earth were the courses separated because micro and macro are dependent on each other.
Private sector and business interests in geopolitics is high. Look at the major geopolitical events since 2000 and it would not be hard to understand why. We had 9/11, policy responses to the great financial crisis, COVID-19, the war in Ukraine, trouble with Iran and now the Chinese-American rivalry. They all affect markets and prices. For example, the supply chain issue caused by COVID-19, pushed up prices as shortages began to appear in many goods, especially automobiles. The War on Ukraine has helped contribute to higher food and gas costs pushing up inflation. Geopolitical events can act as a tailwind or headwind and that assessment is important. The problem with geopolitical assessments is that events are unpredictable and could be hard to assess. That is why many geopolitical analysts assign probabilities to a certain event. A good example of this was that one major economic think tank had an 80% probability that the government would shut down, which it didn’t! However, there is no excuse for investors not to think about things such as this because if the government did shut down for a lengthy period, combining that with all the strikes going on in the U.S., it could lead to a recession. A recession would trigger a decrease in corporate profits, leading to lower stock prices. I think one can see how geopolitical events could cause a chain reaction.
As we can see in the chart below, geopolitical risk has increased since 9/11 and coincidently so has the volatility of the stock market. All these events will have impacts on investors as the rise of nationalism, populism, government deficit spending weigh on the economic principles that drive investors.
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