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Geopolitics update: Key themes for 2019

Geopolitical headlines infiltrate news feeds on a daily, if not hourly, basis. The challenge? Separating the signal from the noise — identifying what matters and what’s coming next. In the first of our regular series on geopolitics, Tom Donilon, Chairman of the BlackRock Investment Institute and former U.S. National Security Advisor, discusses the geopolitical risks that will shape the year ahead and offers lessons learned during his time working for three U.S. presidents.

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    Catherine Kress: It’s nearly impossible to read the news nowadays without some kind of story related to geopolitics showing up in your newsfeed. There’s headlines like “Chinese Tech Investors Flee Silicon Valley,” or “Why Autocrats Love Emergencies,” or even, “America’s Electric Grid has a Vulnerable Back Door and Russia Walked through it.” There is no question we are inundated by breaking developments and competing narratives on a daily, if not hourly, basis. The challenge? Separating the signal from the noise, identifying what matters and what is coming next. On today’s episode of The Bid, we’ll learn how to do just that.

    We’re kicking off the first of our bi-monthly series on geopolitics from the BlackRock Investment Institute. Every other month, we’ll discuss different topics at the intersection of markets, politics, and policy making. Today we’ll speak to Tom Donilon, Chairman of the BlackRock Investment Institute and former U.S. National Security Advisor, to recap the World Economic Forum in Davos and get his thoughts on how geopolitics will shape the year ahead. I’m your host Catherine Kress, we hope you enjoy.

    Tom, thank you so much for joining us today.

    Tom Donilon: Catherine, thanks for doing this today, it’s great to be here.

    Catherine Kress: You just got back from the World Economic Forum in Davos, Switzerland, with attendees ranging from business executives and political leaders, to even and Bono. What resonated with you the most this year?

    Tom Donilon: Well, I can report to my colleagues at BlackRock that I didn’t spend a lot of time with and Bono, but some things did strike me. One is a focus on a slowing global economy but still growing economy. Obviously, as there is every year at Davos, there was focus on geopolitical risk. Principally, I think in this session, the state of U.S./China relations, which were really front and center at the conference, and even more particularly with respect to the U.S. and China, where we are in terms of technology competition. There was a really big focus in a lot of the panels and discussions there. It’s interesting, there were fewer political leaders there this year than there had been in the past. I think that reflects a couple of things, including a number of difficult situations that political leaders face around the world. There was a particular interest I noted also in sustainable investing. We had a very good event on sustainable investing with a terrific turnout, and I think there was a lot of interest in Larry’s latest CEO letter, most especially the focus on corporate purpose and the broadening out of the stakeholders to which corporations need to attend.

    Catherine Kress: You mentioned populism and U.S./China relations. It’s clear from your comments that geopolitics will continue to cast a shadow over markets in 2019. And we can’t really talk about geopolitics without a discussion of the U.S. We have a very different type of administration in the White House. Trade has moved to the center of U.S. foreign policy, and with midterm elections behind us, we’re have a divided government. Republicans are in control of the Senate and Democrats have taken control of the House. Let’s start with our domestic outlook: What is one word you would use to describe U.S. politics in 2019?

    Tom Donilon: Well, it’s hard to do it in one word, but I think it would be loud, boisterous. I think we’ll have a very high level of political combat in the United States over the next couple of years. As you mentioned, we have a different kind of administration in the United States since 2016. President Trump promised a different kind of administration in the 2016 election. It’s a different foreign policy approach, really a departure from a number of the approaches the United States has taken over the last few decades. One thing that will continue I think to be front and center of U.S. foreign policy will be trade, and we’ve seen that over the last year. You mentioned the midterm elections. The midterm elections in the United States this year had tremendous energy; the turnout was the highest it had been in the United States in a midterm election since 1914. We had a very diverse set of candidates elected to the Congress, the largest number of women in the history of Congress. One hundred and six women are now in the Congress coming out of the midterm elections, and a statistic that I love is that in the class that is just starting in the Congress this January, this year, this month, 22 were from the military or the CIA, so we have a really core of national security veterans in the Congress coming out of the midterm elections.

    Catherine Kress: Wow.

    Tom Donilon: As you said, the midterm elections brought us divided government, and divided government will make legislating more difficult I think, combined with the deep polarization that we have in the United States. I think you’ll also see a lot of investigations with the Democrats coming back in control of the Congress, you’ll see the move to oversight hearings and investigations going forward, and I think also, essentially the 2020 campaign has begun already. We have I think seven or so announced candidates already, with a dozen or more to come on the Democratic side, and we’ll see what happens on the Republican side, whether or not President Trump draws any primary challenges. The bottom line though, to answer your question directly, is I think we’re in for a year or two of quite loud political debate and combat, and I think for investors, it’s going to be a challenge to really try to separate the signal from the noise as we determine which of these things actually affects markets.

    Catherine Kress: So we clearly have an interesting year ahead of us in the U.S. And in my mind, there is no doubt that is going to have a global impact. In fact, the International Monetary Fund just lowered its global growth forecast for the second time in six months, highlighting U.S. trade tensions as one of the key risks to its outlook. Do you think these trade tensions are going to resolve any time soon?

    Tom Donilon: Trade really is at the core of the Trump Administration’s approach to international relations and foreign policy. And if you think back, 2017 was the year of mainly rhetoric around trade. 2018, however, saw quite a bit of action on the trade front; indeed, at the beginning of 2018, we had trade disputes under way in most of the regions of the world. Now, during the course of the year, a number of these were either resolved or put in the frameworks or discussions – I think in order to clear the decks, to focus on China – but it doesn’t mean they’ve all gone away. So we have under way trade negotiations under a framework with the EU, we’ve begun a trade negotiation for a free trade agreement with Japan. We did come to agreement with Canada and Mexico, in the United States-Mexican-Canadian Free Trade Agreement, a new accord, the follow-on to NAFTA. That still though has to be approved by the U.S. Congress and that is going to be a bit of a battle, because we’ve had this change in the makeup of the Congress, and it’s not clear at this point whether that can get ratified. It’ll be a high priority for the President to see it ratified. We did have one trade agreement finalized with the Koreans. So we have ongoing trade issues around the world, but none more important than we have under way with China, where we’re in the midst of a 90-day negotiating period between the United States and China, trying to come to some sort of set of accords, understandings and framework to go forward. So I think that trade is going to remain really, as I said, really at the center of U.S. foreign policy and even where we may have made some progress, there are still some outstanding issues, but none more important than the U.S./China trade negotiations. And we still have, by the way, a number of tariffs on allies and partners around the world, including the steel and aluminum tariffs are still in place, and we have a discussion under way about whether to put tariffs on auto and auto parts right, and that report is due some time in February.

    Catherine Kress: Tom, the centrality of the U.S./China relationship has come up a couple of times now in your remarks, we’ve talked about it mostly in the context of trade, but can you talk about the U.S./China relationship more generally and how you see it evolving over time?

    Tom Donilon: Yeah. Catherine, clearly the most important relationship in the world right now, and I say a couple of things about it. One is that the U.S./China relationship has entered a new, more competitive phase, and that competitive phase involves not just economics, which are front and center right now, but really a whole range of issues, including military, even ideological, political issues, where China and the United States really are in a much more competitive posture than they had been in before. This shift I think reflects a lot of things, including a fundamental rethink that is under way I think in the United States around the nature of U.S./China relations, and that fundamental rethink is bipartisan. And that has really moved the consensus here I think in the United States with respect to China. So we may be seeing a shift from what had been the United States approach, which had really be strategic engagement and cooperation, really since Richard Nixon went to China in February of 1972, to a much more strategic, competitive approach by the United States. And I see a similar set of rethinks and approaches under way in China as well. So it’s going to be a challenging time in U.S./China relations. There is a lot of responsibility on the leaders on both sides to manage it.

    Catherine Kress: One of the issues you and I spent a lot of time talking about, trying to understand and disentangle is the rise of populism and global anti-establishment sentiment. History shows us that populist movements have typical lifecycles, with similar drivers, and more or less predictable outcomes. This time though feels very different. Would you agree with that?

    Tom Donilon: I would. Well, first, I’ll make a couple of points. I think one is that we are not at peak populism I don’t think, in the world, today. There had been some thought after the 2017 victory of Macron in France that we may have reached peak populism; that the center may have held, moving forward. But the Macron victory was also quite a dramatic pushback on the traditional parties that had been in the majority in running France since World War II, so in and of itself, it was a pretty big push back on the establishment. But I think what we see is populism still rising, you see it rising in Europe. So, we are not at peak populism, and even where populist parties haven’t taken control of the government, they also really are driving the discussion in a lot of places around the world. And as you’ve said, typically populism is seen as part of a cyclical economic process, right. I think we’re seeing something different here, and it may be more structural. It is broad, it’s simultaneous in a number of countries around the world, including some of the large economies in the world.

    Catherine Kress: Right.

    Tom Donilon: It reflects not just economics, but really rapid change in culture, and demographics, and society, and most important, technology. A number of the things that are driving it are still present in the world, including concerns about inequality and the performance of government. And as I said, it really is emboldened and enabled by technology. And the questions really are these—it’s also taken place during a benign economic environment. What happens when we have the inevitable downturn, and then, because you have these continued populist pressures, what happens to the ability of governments, policymakers, to deal with the next inevitable downturn? So I think it’s a really interesting question and important one for investors to focus on. It’s historically in places where you’ve had populist governments that has had impacts on economic approaches. But I think this may not be cyclical. I think this may be more long-lasting and structural.

    Catherine Kress: So to summarize in terms of some of the key geopolitical risks we think will loom over markets in 2019, we’re talking about trade, U.S./China relations, as well as this anti-establishment populist wave you just spoke about. What are some of the key risks we’re not talking about?

    Tom Donilon: That’s interesting. I don’t think we’re talking enough about the investment needs in society, and specifically the challenge presented by technology, which will bring a tremendous amount of benefits but also challenges particularly in the labor markets. And I don’t know that we have had enough discussion about how we as societies are going to deal with the impact. We’re going to have less people needed to accomplish specific tasks. You’ve seen a number of studies which show significant percentage of current activities or tasks or jobs could be eliminated by a technology, particularly artificial intelligence and robotics. And so I don’t think that we really have come to grips with what the impact is going to be and what the response needs to be to deal with these labor market impacts. There was some discussion about it at Davos, but if you look at the major economies in the world, I don’t think we’re having the in-depth discussion, who is responsible for dealing with this? How do you divide the responsibility between governments and companies for this? We’ve had some discussion, for example, about guaranteed incomes: what’s the impact on really the identity impact, people have so much identity and psychological investment in their jobs and what they do every day, and we’re in for a pretty rapid change. So I don’t think we’re having enough conversation about what investments are required in order to deal with this challenge.

    Catherine Kress: Tom, you’ve had a decades-long career in government, so to close, I’d like to ask you a few more personal question about that.

    Tom Donilon:  Okay.

    Catherine Kress: How many presidents have you worked for, and starting when?

    Tom Donilon: I’ve worked for three presidents of the United States beginning in June of 1977.

    Catherine Kress: How old were you?

    Tom Donilon: I was 22-years-old. I started working in June of 1977 for President Carter, really the week I got out of college.

    Catherine Kress: Who was your favorite to work with?

    Tom Donilon: My favorite president to work with?

    Catherine Kress: Yes.

    Tom Donilon: Well, as is said, I’ve worked for three U.S. presidents since 1977, President Carter, where I worked in the White House and then did his campaign for reelection, I worked for President Clinton, I prepared him for his debates in 1992, led the preparation for his debates in 1992 and then was a chief of staff for the State Department during President Clinton’s term. And then I worked for President Obama beginning in 2009, where I did his debate preparation in the campaign, in 2008, and then was Deputy National Security Advisor and then National Security Advisor for President Obama. So I’ve been exceedingly fortunate to work for the three U.S. presidents during the course of my career. Now to go to your question, which you thought I was trying to avoid. The answer to your question, Catherine, is this. One of the keys to being able to work closely, have the privilege or working closely with three U.S. presidents is not to answer the question you have asked.

    Catherine Kress: Very good answer. How about another one?

    Tom Donilon:  Okay.

    Catherine Kress: How many of your members of your family have you worked with at the same time in the same office?

    Tom Donilon: Good question. In the first Obama term, I worked in the Obama White House, in the West Wing and I worked within 20 feet of my younger brother, Michael--

    Catherine Kress: Wow.

    Tom Donilon: --who was the Assistant to the Vice President. And within probably 20 yards of my wife, Cathy Russell, who then was working for Mrs. Biden, and then she went on to be the United States Ambassador for Women’s and Girl’s Issues at the State Department. But during that first term of the Obama Administration, I was working in the same office with my wife, and with my younger brother.

    Catherine Kress: I think the closet I’ve come to is going to school with two of my siblings, but I haven’t been so fortunate as to work with that many members of my family.

    Tom Donilon: We really did have our public service release, kind of a family project, and it was we worked quite closely during that great period, it was really terrific.

    Catherine Kress: That’s great. So the final question I have for you is you have had a very long history in foreign policy. Who is the most impressive foreign leader you’ve met in that experience?

    Tom Donilon: That’s a good question. I’d have to say Prime Minister Yitzhak Rabin of Israel who was tragically assassinated in the mid-1990s. I was deeply involved in the Middle East peace process, Catherine, during the early-1990s and afterwards. Rabin was really one of the most impressive leaders I had ever seen. He was a quiet man, a modest man. If you went to visit him at his home, outside of Tel Aviv, it was a modest apartment; tremendously strong, great moral authority, and despite his overt modesty when he came into the room, everybody knew they were in the presence of greatness, and there were just people that you—and I worked with many foreign leaders over the course of my career, including as a presidential envoy to a number of them, but all these years, that is the person who really deeply impressed me the most. I knew I was in the presence of a great person.

    Catherine Kress: That’s an inspiring note to end on. So Tom, thank you so much for sharing your insights with us today; I really appreciate it.

    Tom Donilon: Catherine, great to do it. Thanks a lot.

    Catherine Kress: To our listeners, if you’re interested in learning more about our views on geopolitics, search for the BlackRock Geopolitical Risk Dashboard on our website. We’ll see you next time on The Bid.

2019 Global investment outlook
We see growth in the global economy and corporate earnings slowing. Greater uncertainty calls for balancing risk and reward in portfolios.
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