by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM EDT] | PDF

Happy Maundy Thursday! Today’s Comment starts with our thoughts about tomorrow’s job report. Next, we discuss possible substitutes to the equity and futures markets to gauge investor reaction to the labor market data. Lastly, we review the latest development in the conflict between the U.S. and China.

 Good Friday? Markets will be closed tomorrow when the March employment numbers are released by the Bureau of Labor Statistics, but investors will still be on high alert.

• Signs of a cooling labor market could pave the way for a Fed pause or pivot. On Wednesday, private payroll data from ADP showed U.S. firms added 145,000 jobs last month, well below the consensus forecast of 210,000. The slowdown in hiring was also reflected in the manufacturing survey reported by the Institute for Supply Management and BLS data that showed a sharp drop in job openings in February. The Federal Reserve has consistently pointed to the tight labor market as evidence that it still has room to raise interest rates. Thus, a weak BLS jobs report could pressure the central bank to conclude its hiking cycle before the end of the year.
• Despite Wednesday’s data supporting a more dovish monetary policy, investors are worried about the state of the economy. The service activity index tracked by the ISM showed a sharper-than-expected drop. The index came in at 51.2, well below expectations of 54.5, and the previous month’s reading of 55.1. The subpar economic number weighed on equities as investors looked to lock in temporary gains made earlier in the week. Led by tech stocks, the S&P 500 fell 0.25% on Wednesday, while the NASDAQ sank 1.1% in the same period.
• A disappointing jobs number may convince the Fed to rethink its interest rate strategy. Over the last few weeks, Fed officials have appeared less committed to raising rates. Regional Fed President Neel Kashkari and Thomas Barkin have both been reluctant to advocate for another rate hike in the May meeting. Meanwhile, Cleveland Fed President Loretta Mester has emphasized that the central bank must be “judicious” as it conducts policy going forward. The shift in tone may be related to uncertainty regarding the economy following the downfall of Silicon Valley Bank (SIVB, $106.04) and Signature Bank (SBNY, $0.16) in March. As of this writing, the market has priced in a 67% chance that the Fed will stop hiking rates by June.

Still Open Most Hours: Equity markets may not be open on Friday; however, currencies and bonds will still be trading.

• With it trading until 5 PM EDT on Friday, the forex market will likely be a great place to see reactions to the jobs number. The U.S. Dollar Index shows that the greenback is down 1.5% against global currencies for the year. Its steady decline has been driven by concerns that a looming recession will force the Fed to halt and possibly reverse its policy stance. If the jobs number is softer than expected, global currencies will likely rally against the greenback. However, strong employment data could see the opposite or no reaction at all. Although the DXY Index is based on futures contracts and thus won’t be traded on Friday, movements in the EUR, GBP, and JPY will likely reflect a broader decline in the U.S. dollar relative to its peer currencies.
• Although hours will be limited, fixed income will be another market to gauge investors’ perceptions of the U.S. labor market. The yields on two-year Treasuries have fallen 132 bps since March 7 of this year, while 10-year Treasuries have decreased by 77 bps in the same period. Similar to the DXY Index, the normalization of the yield curve shows that the market believes the central bank is just about finished with its hiking cycle. Additionally, fixed-income securities have been noticeably more sensitive to changes in Fed interest rate expectations. As a result, a strong jobs report may be bearish for bonds, while a weak report may be favorable.
• Fixed income and currencies will give hints to how the market may open on Monday. This year, risk assets have generally rallied whenever data supported a possible moderation in central bank policy. Investors’ increased risk appetites explain why Bitcoin has surged 69% since the beginning of the year. Thus, a lower-than-expected jobs number could lead to an overall surge in equities on Monday. In the meantime, barring a significant event, we expect that markets will be relatively tame on the final trading day of the week.

The Saga Continues: The Washington and Beijing feud continues despite growing momentum for peace talks between Russia and Ukraine.

• A senior Ukrainian official has expressed his country’s openness to holding talks with Russia to end the territorial conflict. Prior to these comments, Ukraine President Volodymyr Zelenskyy dismissed the potential for talks until Russia removed all of its forces from his country, including Crimea. The change in sentiment is related to rising confidence that the Ukrainian military will be able to retake land along the administrative border of Crimea. The possible de-escalation of tensions between the two countries will be welcomed by Europe, who feared that Ukraine might overplay its hand if it tries to retake Crimea.
• Meanwhile, China is broadening its influence in the Middle East as Beijing positions itself to decouple from the U.S. On Thursday, government officials from Saudi Arabia and Iran met in Beijing for the first time since the countries agreed to restore diplomatic ties. The Chinese-brokered agreement reflects Beijing’s strategic pivot toward the Middle East and Africa as it looks to maintain its access to key raw materials. At the same time, U.S. Vice President Kamala Harris concluded her trip to Africa this week. She had one message to her African counterparts: America is your friend, and China is not.
• It is too soon to say whether the war between Russia and Ukraine is close to a conclusion. Both sides have much to lose if the conflict ends without a decisive victory for their respective side. That said, the end of the conflict could help ramp up the competition between the U.S. and China. The European Union’s deep trade ties with China have made it reluctant to completely sever ties with America’s top rival. French President Emmanuel Macron’s pestering of his Chinese counterpart to mediate tensions between Russia and Ukraine reflects Europe’s eagerness to maintain strong ties with China despite pressure from Washington. Hence, if Beijing is able to use its influence to end the war in Ukraine, EU countries may be less inclined to support U.S. trade restrictions.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM EDT] | PDF

Our Comment today opens with the latest signs and implications of worsening U.S.-China tensions, including an important admission by a top U.S. business leader that China poses major economic threats to the U.S. and must be confronted.  We next review a wide range of other international and U.S. developments with the potential to affect the financial markets today, including a surprisingly aggressive interest-rate hike in New Zealand, hawkish statements by a key Federal Reserve official, and evidence that the Fed’s own policies are helping draw deposits out of the U.S. banking system.

United States-China:  The U.S. Department of Defense stated in a recent report that China is now, for the first time ever, keeping at least one of its six Jin-class ballistic missile submarines on patrol in the South China Sea on a 24/7 basis.  According to the report, the subs are also now carrying China’s new JL-3 missile, which can deliver multiple independently targeted nuclear warheads all the way to the U.S. mainland.  The enhanced operating tempo suggests that the Chinese sub force is making important strides in communications, command and control, logistics, and other operational skills.  Even though the Jin-class subs are relatively noisy and therefore easy to detect, keeping them in China’s well-protected South China Sea bastion could help them survive any initial conventional or nuclear attack from the U.S., giving China an enhanced ability to launch a retaliatory second strike.  That will likely force the U.S. to increase the deployment of its nuclear hunter-killer attack subs, surface ships, and sub-hunting aircraft to the region to track the Chinese vessels and prepare to destroy them if needed in time of conflict.  In turn, that will presumably further increase the current strain on the U.S. military and defense industry and worsen U.S.-China tensions.

• Separately, Chief of Naval Operations Admiral Michael Gilday said this week that the U.S. Navy’s updated force structure analysis will probably show that it needs even more ships than its current target of 373 to carry out its global responsibilities and counter the growing threat from China. The Navy’s actual current inventory is only 296 ships.  The updated force structure analysis is due to Congress by mid-June.
• Additionally, Jamie Dimon, CEO of JPMorgan Chase (JPM, $128.42), warned in his widely followed annual letter to shareholders that China is now in a position to disrupt the supply of critical commodities and products to the U.S. and its allies, and that it must not be allowed to do so.
  • In Dimon’s words, “China, using subsidies and its economic muscle to dominate batteries, rare earths, semiconductors or [electric vehicles], could eventually imperil national security by disrupting our access to these products and materials. We cannot cede these important resources and capabilities to another country.”
  • Dimon’s comments are notable because he, like many other top U.S. business leaders, had previously been a champion of tighter U.S.-China economic relations. Dimon’s about-face suggests that business leaders may finally be swinging around to the consensus view that China is an increasingly dangerous military, economic, and diplomatic threat to the U.S. and should be countered.

United States-Taiwan-China:  Taiwanese President Tsai Ing-wen meets House Speaker McCarthy in California today.  The meeting is expected to prompt strong responses from China, including at least accusations that the U.S. is abandoning its “one China” policy and probably some sort of aggressive, retaliatory military exercises around Taiwan in the coming days.  If those drills happen, they will raise the risk of an accidental conflict.  At the very least, they would worsen U.S.-China tensions, potentially putting investors in the cross-fire.

New Zealand:  The Reserve Bank of New Zealand announced an unexpectedly big increase in its benchmark short-term interest rate to 5.25% from 4.75% previously.  The hike was especially surprising because recent data has shown that New Zealand’s economy is weakening and may be on the verge of a recession.  The aggressive rate hike also marks a contrast with the Fed and the Bank of England, which have slowed their rate-hiking campaigns.  The Bank of Canada and the Reserve Bank of Australia have both recently paused their rate hikes.

Mexico:  The Mexican government said it has reached a deal to buy most of the electricity-generating assets owned in the country by Spanish utility Iberdola (IBDRY, $50.15) for $6 billion.  The deal marks a victory for leftist President Andrés Manuel López Obrador, who had long pressured Iberdola to sell as part of his “new nationalization” program.  As such, the deal also illustrates the government’s strong nationalist and left-wing populist bent, which has prevented Mexico from taking full advantage of the trend of “near shoring” production to be closer to the U.S.

U.S. Monetary Policy:  Cleveland FRB President Mester today warned that consumer price inflation remains too high and stubborn, and that it could take until 2025 to bring it down to the Fed’s 2% target.  Mester stressed that the Fed will continue to focus on inflation despite the need to address the recent mid-sized bank crisis.  The statement reinforces our view that the Fed is probably not yet ready to stop tightening monetary policy, although it is probably getting close to that point.

U.S. Banking Crisis:  Concerns about sudden bank runs have dissipated, and analysts (including those at Confluence) are now focusing on the new risk that banks are facing—a slow-motion loss of deposits as individuals and businesses look for higher-yielding places to store their funds.  One place these depositors are shifting to are money market funds, which are putting increasing amounts of money to work in the Fed’s “reverse repo” facility.

• In turn, that’s generating concern that the Fed itself is exacerbating the outflow of deposits from banks because of the relatively high interest rates it pays to money market funds in the reverse repo facility.
• More broadly, the outflow of deposits from banks could eventually help prompt the Fed to begin cutting its benchmark fed funds interest rate.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM EDT] | PDF

Our Comment today opens with some good news on global lithium prices and the prospect of lower costs for batteries and electric vehicles.  We next review a wide range of other international and U.S. developments with the potential to affect the financial markets today, including the Australian central bank’s decision to pause its long campaign of interest-rate hikes and new signs of weakness in the U.S. commercial real estate market.

Global Lithium Market:  Global lithium prices are now down more than 30% for the year, partially reversing a massive two-year surge and boosting hopes that the cost of batteries and electric vehicles could come down.  The drop in lithium prices stems from weaker demand for electric automobiles, especially in China, and a decline in risk appetite as global interest rates rise.  However, given that lithium is a key mineral for electric vehicle batteries, many industry leaders believe its price will eventually rebound as the world transitions away from gasoline-powered cars.

North Atlantic Treaty Organization:  NATO foreign ministers who met in Brussels today formally accepted Finland into the alliance.  The move vastly expands NATO’s land border with Russia, makes the Baltic Sea essentially a NATO lake, strengthens the alliance’s military power, and enhances its deterrent credibility, even if Sweden’s bid to join remains held up by Turkey and Hungary.

France:  As mass protests continue against President Macron’s recent pension reform decree, police trying to get control of the situation have reportedly revived some of the tough, controversial tactics that helped them quell the country’s “yellow vest” protests in 2018.  The tactics include preventative arrests and massive police deployments even for modest-sized protests.  So far, however, it isn’t clear whether the tactics will help deflate the protests or merely add to the political fire facing Macron.

United Kingdom:  So far this morning, the British pound (GBP) has jumped to $1.2488, reaching its highest value in 10 months.  The recent surge in the GBP has been driven by better-than-expected economic performance and higher interest rates in the U.K., as well as a broad drop in the value of the USD following last month’s U.S. banking crisis.  With this surge, the GBP is now the best-performing major currency so far in 2023.

Source:  Wall Street Journal

Australia:  The Reserve Bank of Australia today held its benchmark short-term interest rate unchanged at 3.60%, after 10 straight rate hikes that lifted the benchmark by 3.50% since last May.  The central bank moved to pause its rate-hiking campaign even though Australian consumer prices have only recently begun to decelerate.  The pause could boost expectations for a similar move by the Federal Reserve in the U.S.

China-United States:  According to media reports and a Defense Department briefing yesterday, the Chinese spy balloon that traveled over the U.S. and was shot down off the coast of South Carolina in February was maneuverable enough to hover over sensitive military sites, prompting the Pentagon to take evasive steps.  The media reports said the balloon was able to transmit intelligence back to China in real time, although Pentagon officials would not confirm that in public.  The revelations could lead to renewed concern about Chinese spying and further worsen U.S.-China tensions.

U.S. Space Exploration:  Yesterday, the National Aeronautics and Space Administration announced the four astronauts who will make up the crew of the Artemis II mission that will fly past the moon in late 2024.  The NASA mission will mark the first human flight near the moon since 1972, with the goal of testing spacecraft systems needed for a future lunar landing.  The NASA crew will consist of two U.S. men, one U.S. woman, and one Canadian man.

U.S. Water Supplies:  Surveyors from the California Department of Water Resources said yesterday that the mountain snowpack near Lake Tahoe now stands at more than 126 inches, the deepest snow in four decades and some of the deepest snow recorded there over the last century.  Driven by this winter’s nearly constant precipitation, the snowpack is expected to sharply reduce the state’s drought conditions, providing a boon to industry and agriculture, but with the risk of dangerous flooding as temperatures rise.

U.S. Commercial Real Estate Market:  Blackstone (BX, $84.96) said investors asked to redeem $4.5 billion from its Breit commercial real estate fund in March, marking the fifth straight month in which the fund has faced large redemption requests that have forced it to limit withdrawals.  The big redemption requests came despite Blackstone’s conference for Breit investors last month when it argued that the recent U.S. banking crisis will create stronger long-term investment opportunities for the fund by reducing the amount of available bank loans and cutting the risk of an excess supply of properties.  The news drove Blackstone’s stock down 3.3% yesterday and put further downward pressure on real estate investment trusts (REITs).

• In another sign of the weakening market for commercial real estate, data firm CoStar Group said sales of apartment buildings in the first quarter were down a whopping 74% from the same period one year earlier. That marks the worst annual sales drop since the first quarter of 2009.
• The drop in multifamily transactions reflects the impact of rising interest rates, regional banking turmoil, and slowing growth in apartment rents.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM EDT] | PDF

Our Comment today opens with several indicators of increasing tensions between the U.S. and members of the evolving China-led geopolitical bloc, including Russia and Saudi Arabia.  We next review a range of other international and U.S. developments with the potential to affect the financial markets today, including new analysis showing that a rebound in large-cap technology stocks was the key reason that the U.S. stock market was able to rise last month despite the crisis that engulfed small and mid-sized banks.

United States-China:  Republican and Democratic members of the House Select Committee on the Chinese Communist Party will embark on a three-day visit to Silicon Valley and Hollywood this week to talk about U.S.-China relations with top technology and entertainment executives.  Some U.S. finance, technology, and entertainment firms have resisted the growing effort by policymakers to suppress China’s expanding military power and geopolitical influence.  While the members of Congress will listen to the firms’ perspectives, we suspect they will also use the meetings to educate the executives about the Chinese threat to U.S. security and the need to put security above narrow business interests.

• Separately, China appears to be ramping up its response to recent U.S. restrictions on its semiconductor industry. In what appears to be retaliation, the Chinese government last week opened a cybersecurity investigation into Micron Technology (MU, $60.34), a top U.S. maker of DRAM memory chips.
• The Micron investigation is likely meant to be a warning to other countries with big memory-chip firms, such as South Korea. In all probability, China is trying to caution those countries that if they sign on to the U.S.’s clampdown on advanced technology transfers to China, the Chinese government will hinder their key companies’ activities in China.

China:  The Caixin purchasing managers’ index for manufacturing came in at a seasonally adjusted 50.0 in March, falling short of expectations and marking a big decline from the 51.6 registered in February.  Like all major PMIs, this one is designed so that readings over 50.0 indicate expanding activity.  The current Caixin and official PMIs suggest China’s post-pandemic manufacturing recovery has quickly lost steam, at least in part because of weakening demand overseas.  If they continue, such tepid readings are likely to be a headwind for risk assets going forward.

Russia-Saudi Arabia-United States:  Yesterday, the Organization of the Petroleum Exporting Countries and its Russia-led allies unexpectedly announced that they will cut their total crude oil output by 1 million barrels per day.  Saudi Arabia alone said it will voluntarily cut its production by 500,000 bpd, while other OPEC+ members said they will cut their output by smaller amounts.  Russia said it will extend its 500,000-bpd cut announced last year.

• The move was aimed at reversing a recent decline in oil prices prompted by fears of slowing economic growth around the world. It also appears to be Saudi’s retaliation after the Biden administration last week said it had no near-term plan to replenish the U.S.’s Strategic Petroleum Reserve despite previously giving the Saudis assurances that it would buy oil if prices fell.  In any case, oil prices so far today have surged more than 5%, with Brent now trading at $84.13 and WTI at $79.71.
• Saudi Arabia’s cooperation with Russia also underlines its increasingly close alliance with Russia and the rest of the evolving China-led geopolitical bloc. That is likely a harbinger of increasingly tense U.S.-Saudi relations and further threats to global oil supplies.

Russia:  In a sign that internal political tensions are rising, the Federal Security Service (FSB, successor to the KGB) is reportedly confiscating the passports of senior officials and state company executives to prevent overseas travel, information leaks, and defections.  The move reflects deep suspicions about the loyalty of the country’s civilian elite, many of whom privately oppose the war in Ukraine and are chafing over its impact on their lifestyles.

• Separately, nationalist blogger Maxim Fomin, known publicly as Vladlen Tatarsky, was killed by a bomb yesterday while conducting a meet-and-greet event at a café in St. Petersburg. Fomin had been a vocal advocate of Russia’s invasion of Ukraine, although he had also sharply criticized the Ministry of Defense for its failures and shortcomings in running the invasion.  He likely had enemies in Russia’s official defense bureaucracy, although the lone suspect arrested in the case so far is a woman who had previously attended a demonstration against the war last year.
• On the Ukrainian battlefield, Russian officials said they have finally taken control of central Bakhmut, the eastern Ukrainian city they have focused on for months and suffered huge casualties trying to capture. However, Ukrainian officials say they still control other parts of the city and will continue fighting to degrade Russia’s forces.

Finland:  Petteri Orpo and his center-right National Coalition Party leveraged a focus on economic issues to narrowly win Sunday’s parliamentary election, ousting Prime Minister Marin and her center-left Social Democratic Party.  However, the National Coalition only came away with 48 of the 200 seats in parliament, slightly more than the 46 seats for the right-wing Finns Party and the 43 seats for the Social Democrats.  That will likely make it difficult for Orpo to form a governing coalition in the coming weeks.

Switzerland:  Federal prosecutors announced that they will investigate whether any criminal behavior was involved in last month’s government-led takeover of Credit Suisse (CS, $0.8898) by UBS (UBS, $21.34).  Numerous aspects of the rushed deal have arisen, but the prosecutors haven’t specified any particular offenses that they are targeting.

U.S. Stock Market:  If you’re wondering how the U.S. stock market was able to perform so well last month despite the crisis in small- and mid-sized banks, it appears the answer is that large technology firms did quite well.  Since the beginning of the crisis in early March, new analysis shows that Apple (AAPL, $164.90) and Microsoft (MSFT, $288.30) alone contributed more percentage points of gains to the S&P 500 price index than all financial stocks in the index subtracted.  In turn, that reflects how investors looking for an eventual retreat in interest rates are already positioning themselves back into technology (probably too early, we think).

U.S. Labor Market:  New analysis from the Wall Street Journal shows that the nation’s strongest job markets in 2022 were Nashville, TN; Austin, TX; and Jacksonville, FL.  The rankings were calculated based on five criteria, including each city’s 2022 unemployment rate, labor-force participation rate, changes to employment levels, size of the labor force, and wage rates.  In contrast, cities that did well right after the end of the pandemic, such as Salt Lake City, UT and Phoenix, AZ slipped in the rankings.

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by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM EDT] | PDF

Good morning! Today’s Comment begins with an update on the ongoing banking crisis and how it may impact the real estate sector. Next, we review why precious metals, such as gold, have been able to perform well during a time of heightened uncertainty in the market. Lastly, the report discusses the ongoing friction between the U.S.-led and China-led blocs.

 Back to Banks: Deposit withdrawals are becoming less of a problem; however, it is still too soon to say that the banking crisis is over.

• There is growing evidence that banks are in need of less cash. The latest data from the Federal Reserve shows that the U.S. bank liquidity problem is slightly improving. Emergency loans to banks from the Federal Reserve backstops declined from $163.9 billion to $152.6 billion in the week ending March 29. Meanwhile, European Central Bank official Isabel Schnabel noted that deposit outflows were not a problem for European banks. Research published by Jefferies Group (JEF, $30.58) went further and argued that the average European bank could lose 38% of its deposits before having to sell any of its government bonds at a loss.
• Despite improving financial conditions, some central bankers remain wary about the health of the banking system. Minneapolis Fed President Neel Kashkari hinted that the banking crisis might not be over. Given his experience working at the Treasury during the financial crisis, he explained that strains in banking may take a while to work themselves out. He added that the ongoing crisis could extend longer than many people realize. His colleague at the Richmond Fed, Thomas Barkin, also cautioned that it is too soon to tell whether the banking turmoil will lead to tighter credit conditions.
• That said, deposit flight remains a major threat to commercial real estate. According to JPMorgan (JPM, $129.57), European banks have as much as €1.9 trillion ($2.07 trillion) worth of commercial real estate exposure, while U.S. banks have $1.7 trillion. This asset class has been the hardest hit since the pandemic due to the drop in demand for office space and would be severely impacted by a credit crunch. Hawkish central bank policy worsens the problem by incentivizing depositors to move their money out of banks and into money market funds and U.S. Treasuries. As a result, we advise investors to pay close attention to their real estate exposure as this banking situation plays out.
  • The European real estate market is already showing signs of weakness due to the banking turmoil. The MSCI Europe Real Estate Index of large and mid-cap property companies has dipped to its lowest level since 2009.

Gold Great Again? Precious metals have performed well amidst the growing market turmoil.

• Concerns over the financial system and the economy have led investors to retreat temporarily from equities and move into safer assets. Gold has outperformed the S&P 500 this year, 8.5% to 3.4%. Similarly, the Bloomberg Commodity Precious Metals Subindex has rallied 10.9% since March 8, despite being down in the first three months of the year. The preference for precious metals over equities is related to uncertainty over interest rates. As inflation remains elevated and a recession approaches, investors are unsure of what the Fed’s next moves will be and have sought safety in real assets.
• Central banks have expressed a willingness to hike policy rates, but the market doesn’t buy it. On Thursday, Boston Fed President Susan Collins insisted that the banking system remains sound and that the Federal Reserve is still focused on taming inflation. Meanwhile, stickier core inflation in Europe has complicated efforts by the ECB to conclude its tightening cycle. Because of the central bank’s insistence on raising rates, financial market participants anticipate a cut later this year. The CME Fed Funds Watch Tool shows that there is an 80% chance of a cut in the Federal Reserve policy rate by the end of 2023, while the overnight index swap curve for the EUR shows that the ECB will also cut within that period.
• Although there is much to be worried about in markets, there is still a lot of opportunity to earn solid returns. Precious metals are an attractive option as they are relatively more liquid when compared to digital currencies and have a solid reputation for being a hedge against market uncertainty. Additionally, the movement into cash and cash equivalents could also lead to sub-optimal portfolio returns. That is why we would like to caution investors away from fleeing the market, as there is a realistic possibility that they could miss many attractive opportunities. As the saying goes, there is no great reward without at least some risk.

 

Beijing Shuffle: China and Russia are looking for ways to outmaneuver the West as they seek to avoid being isolated from the rest of the world.

• The U.S. and its allies continue to form a united front against China and Russia. On Thursday, the Turkish parliament approved Finland’s petition to join NATO. Turkey’s consent removes a significant hurdle for the military alliance as it looks to deter Moscow from further aggression by adding new members. Meanwhile, European Commission President Ursula von der Leyen has urged EU countries to back restrictions on the transfer of sensitive technologies to China. The remarks come amidst pressure from the U.S. to have EU members support trade restrictions on goods that can potentially boost Beijing’s defense capabilities.
• The ostracization of China and Russia has made it difficult for their economies to recover. Beijing is still working to boost GDP growth following its stringent Zero-COVID policies and a wave of infections that limited consumption. Recent PMI data shows the economy is improving, but consumer confidence indicates that sentiment remains stubbornly low. At the same time, President Vladimir Putin recently admitted that Western sanctions are starting to negatively impact the Russian economy. The isolation of these two countries has made them draw closer to one another as they look to work together to reduce their dependence on Western markets.
• The rivalry between the U.S.-led and China-led blocs shows how trade can quickly devolve into a zero-sum game. As the two sides look to decouple from one another, we expect that, in the long term, the rest of the world will split into two camps that prioritize trade ties with one of the major blocs. Although a few countries, such as Turkey and Brazil, will be able to find some middle ground to work with both blocs, we suspect that others will be forced to choose. As noted in previous reports, China is looking to build alliances with major commodity producers, while the U.S. prefers to build security ties with other advanced economies.
  • At some point, there may be a direct confrontation between the two sides; however, that time remains in the distant future.

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