History is never as neatly demarcated as we like to think it is. We bookmark certain years in our memories to separate what came before from what came after, and some years even justify this practice. We remember 2008 for a financial crisis that nearly sank the global economy. We remember 1991 as the year the Cold War ended. We remember 1939 as the moment Nazi Germany began its ill-fated quest for global domination. These years are important because they changed the world for generations to come, but they are no more important than the years that preceded them, for it was in these years that the social, economic and political conditions that fomented change were created. To borrow a quote from Jacob Riis, it’s never the final hammer blow that breaks the rock; it’s all the hammer blows that came before it.
For our 2019 forecast, we will identify the blows that came before. Many of the forces that will shape the world in 2019 shaped the world in prior years. What makes this year different is that all the events and elections and conflicts that we would identify as a matter of course lead to one inescapable conclusion: One era is ending and another will soon begin. The global economic system – shaped in part by the inefficiencies in the Chinese economy, sustained since 2008 by cheap capital, stimulus and quantitative easing – is starting to sputter. The United States, still the world’s dominant power, has spread itself thin, and the power gap between it and its rivals has narrowed. Conventional wisdom is no longer conventional, and around the world there is a sense that everything, including U.S. hegemony, is in question.
The coming year, then, can best be described as a year on the edge – a transition between the post-Cold War era and a new era that has yet to be defined. It is the kind of year that will seem remarkable only in hindsight, a moment in time when pent-up forces and countless events take us past the point of no return. It will be a year of anxiety, suspicion and fear of what the future holds as countries seek to delay the onset of crises they cannot avoid.
A Cycle Ends
The global economy is off balance. Production is in danger of outpacing demand, a problem for the many countries that have staked their economic well-being on production. Consider Germany, which generates 47 percent of its gross domestic product from exports. Its top export destination is the European Union – but with members like Greece and Italy in economic distress, the EU is an increasingly risky trade partner. (This is to say nothing of the uncertainty surrounding Brexit.) China, whose low wages and large appetite for raw materials have driven the global economy for almost three decades, is attempting to transform itself into a producer of high value-added goods. Meanwhile, the world’s biggest consumer – the United States – has fueled its spending with historically high levels of debt.
We’ve been here before, most recently in 2016, when global GDP increased by 2.3 percent as global trade grew by only 1.8 percent. In other words, trade was growing more slowly than output. China’s stock market collapsed that year, and the government so bungled its response that major changes took place at the very top of the Chinese bureaucracy. Italy was sitting on a mountain of nonperforming loans, and the prospect of an Italian banking crisis cast a shadow not only on the European Union but on the global economy itself. Oil prices remained low, with Brent crude averaging just $44 per barrel, putting pressure on countries, such as Russia and Saudi Arabia, whose economies depend on oil exports. It seemed to many, including us, that the weak recovery from 2008 was in serious jeopardy.
But in 2017, the economy rallied. Trade grew by 4.7 percent and global GDP grew by 3 percent. For Germany, a bellwether for global trade, the value of its exports increased by 8.2 percent, and orders increased by 6.3 percent compared with 2016. Commodity prices also bounced back. Stimulus continued to flow in China, even as President Xi Jinping promised to cut down unprofitable sectors in the economy. A new U.S. government passed tax cuts that drove up corporate profits and economic growth (to 3.5 percent in the third quarter) and even led to a modest 1.4 percent bump in real wages. The euphoric turn in the business cycle, however, did nothing to halt the growth in wealth inequality throughout much of the world. Indeed, the very tools used to avert the reckoning have only delayed it and, in some cases, aggravated the underlying problems.
More signs appeared in 2018 that something was amiss in the global economy, none more important than the U.S.-China trade war. The success of their economic relationship – the U.S. is the world’s top importer and China the top exporter – has helped drive global trade. China’s preternatural GDP growth since the 1980s would not have been possible had not major multinational companies moved their production there. U.S. consumers, meanwhile, gained from the introduction of cheap, Chinese-made goods to the market, which helped to bring inflation down. The arrangement always had its downsides. The outsourcing of production to Chinese factories, for example, decimated many U.S. industries, and China’s main comparative advantage on wages diminished each year incomes rose. But for the most part it was mutually beneficial.
Then things changed. There grew a sense in Washington that Chinese power was a threat to U.S. power, and in that environment rose politicians, including President Donald Trump, who successfully politicized the sense that American workers had been left behind.
Washington now wants a sort of quid pro quo: It wants China to open its market to U.S. goods and services in exchange for continued and reliable access to U.S. markets. China, though, wants to ease its dependence on foreign goods, not reinforce it, hence Xi’s continual refrain of “self-reliance.” The problem is that Washington is, in effect, asking Beijing to do something it can’t without significantly weakening its economy. A weakened economy would, in turn, threaten Chinese national security and undermine the very legitimacy of the Chinese Communist Party.
The emerging geopolitical rivalry between the world’s two largest economies is a result of and a threat to the global economy, and its effects will be felt far and wide.
The U.S. and China will reach a deal on trade, but it won’t end the trade war.
Even if China promised to meet U.S. demands on bigger points of contention like intellectual property protections and state support for industrial sectors – issues on which it has repeatedly agreed to make changes since joining the World Trade Organization – it would take Beijing years to prove it was making good on its promise. China and the U.S. have an interest in allaying everyone’s economic concerns and in claiming victory against each other, but in 2019 it will become clear that they have embarked on a long process of economic decoupling. In fact, the U.S. is already doing this by creating incentives for manufacturers to find suppliers outside China and by pinching off Chinese investment in the United States. It will be much more difficult for China to disengage from the U.S., given its dependence on the U.S. consumer market and investment from U.S. firms. But Washington has made the risks of failing to do so clear to Beijing. China cannot give in to U.S. demands without abandoning its core state-led industrial model and its pursuit of sustainable growth based on high-tech exports – tools it thinks it needs to manage its massive internal risks.
A decline in living standards will lead to social unrest in Russia. It won’t be enough to effect regime change.
The Russian government is slated to implement a series of economic reforms in 2019, including an increase in the value-added tax from 18 percent to 20 percent, pension changes, new duties on unhealthy consumer products, a new ecological tax, a nationwide tourism tax, and a self-employment tax for residents of Moscow and three other regions. These reforms will probably hurt average Russians, who spend about 70 percent of their income on necessities such as food and clothing and another 12 percent on taxes and other mandatory payments. (Only about 8 percent goes to savings.) Things will become more unbalanced as prices and inflation rise. In other words, Russians – 64 percent of whom already have below-average income – will make less money while paying more for basic goods.
This is a recipe for social unrest, but we don’t expect it to seriously threaten the Russian government, even though the approval ratings of both the State Duma and President Vladimir Putin have fallen, as of this writing, to 36 percent and 66 percent respectively. The government will crack down where necessary and may modify some of its economic reforms if the pressure becomes too great.
Russia’s economic problems will also affect its foreign policy. Costs will outstrip strategic needs. The imbalance might suggest Russia will be less assertive, but the last time its economy buckled, Moscow launched its campaign in Syria to remind its people, and the rest of the world, of its power.
To manage the fallout of the trade war, China will intensify its suppression of internal dissent and employ modest fiscal stimulus to sustain growth.
China is fighting a two-front war – against the U.S. on trade and against its own structural dysfunction – to forestall the economic reckoning set in motion in 2008, when the financial crisis exposed its overdependence on exports and left it swimming in debt. Its primary weapon in this fight: centralization. That means the government will become more dictatorial and less forgiving of those who fail to comply with painful structural reform. Export-dependent coastal provinces that are more exposed to the trade war will be kept on an especially short leash. But a crisis could just as easily bubble up in the over-leveraged interior. The Central Commission for Discipline Inspection, the Communist Party’s highest disciplinary body, will have a very busy year. High-profile purges and near-constant speculation about power struggles are inevitable, as are periodic outbreaks of unrest. But no faction powerful enough to challenge Xi will emerge in 2019, and the People’s Liberation Army will not openly oppose the top leadership. Protest movements will be expressions of local frustration rather than anger directed at Beijing, and they will be swiftly crushed.
Controlling the chaos, though, carries the economic risk of spooking foreign investors and triggering capital outflows, so Beijing will be careful not to be too heavy-handed. It will rely on direct intervention to stabilize markets, manage the yuan and rescue ailing small exporters, while using state-owned enterprises to soak up surplus labor and absorb unprofitable firms – and pushing toxic assets onto state-owned banks. Beijing doesn’t want to abandon reforms aimed at tackling structural threats like debt, reckless lending and pollution, but neither can it afford to let the economy sputter, so it will probably have to rely (again) on modest fiscal stimulus to sustain growth, which could recreate some of the problems the reforms were meant to solve. It’s impossible to say whether any of the bubbles in the Chinese economy will burst, but it will be a difficult year for China, and the government won’t have much room to maneuver.
Economic growth in much of the European Union will slow, and some countries’ economies will contract. Germany is especially vulnerable to a recession.
The European Commission expects growth in the EU-27 to slow to 2 percent next year. That’s down from its spring projection of 2.3 percent for 2018, revised to 2.1 percent in July. In the third quarter, German GDP contracted by 0.2 percent, missing consensus estimates of a 0.1 percent contraction. Other countries that also experienced contraction in the third quarter include Lithuania (0.4 percent), Sweden (0.2 percent) and Italy (0.1 percent). Perhaps most surprising, the economy of Switzerland, which isn’t part of the EU, contracted by 0.2 percent despite consensus estimates of 0.4 percent growth, thanks to weak domestic demand and faltering exports. The question is whether this is a temporary blip or a sign of things to come. Considering the slowed growth in trade, the potential debt crisis in Italy, the uncertainty of a no-deal Brexit and the threat of U.S. automotive tariffs, we suspect it will be the latter. And though we don’t expect a full-blown crisis, we do expect the slowdown in global trade to hurt European economies, leading to, among other things, more disappointing growth figures across the board.
U.S. economic growth will slow. The U.S. is approaching the end of its current expansionary cycle, and a recession before the year’s end would not surprise us.
The U.S. is at the end of one of the longest periods of economic growth in its history. The stock market is up. Unemployment is low. Interest rates are rising. Energy prices are falling. Yet this period of growth hasn’t been all positive. It has widened wealth inequalities, which are now at levels similar to those of the Great Depression. Real average hourly earnings were stagnant in 2018 despite impressive top-line growth figures. Rising interest rates are making borrowing more expensive. But tax cuts and trade policy changes, introduced by the Trump administration to encourage domestic production and GDP growth, aren’t enough to solve the problems underlying the disparity. Using these tools at the end of a growth cycle, moreover, will weaken their effect in the next downturn.
And the U.S. is, in fact, overdue for a recession. The Federal Reserve has issued a warning about historically high levels of corporate debt and the deteriorating quality of assets linked to nonfinancial business debt. Capital has been cheap for the past decade, and we have long maintained that the economic recovery since the 2008 financial crisis has been lackluster. The risk that a renewed economic crisis will either spark or accompany a U.S. recession can’t be overlooked. While we can’t pinpoint what will set off the recession, that doesn’t make it any less real or threatening to the global economy.
The Race for Power in the Periphery
Since the Soviet Union collapsed in 1991, the U.S. has been the undisputed global superpower. It’s difficult to overstate how important and unprecedented the Soviet collapse was to the global balance of power. For the first time in 500 years, no single European power dominated the world. For the first time in history, the world’s center of gravity was in the Western Hemisphere. We are in the very early stages of the North American era of global power, and any forecast of a single year must take that much broader historical perspective into account.
U.S. competitors, guilty of wishful thinking, and the U.S. itself in its moments of irrational insecurity have come to use the term “multipolarity” to describe the current world order. Multipolarity suggests distinct nodes of equal power distributed across the globe. While there are certainly other hubs of significant military and economic power in the world, none is equal to the U.S. – nor is the gap particularly close. The U.S. spends more than the next 10 countries combined on its military forces and represents nearly a quarter of the global economy. As world powers go, it is in a class of its own.
Still, the United States isn’t omnipotent. Its power, like all power, has limits, and the scope of U.S. foreign policy has begun to outstrip even the tremendous resources of the United States. It identified China and Russia as long-term competitors for global power and sought to isolate them through a combination of sanctions, tariffs and other economic instruments. It also identified Iran and North Korea as potential threats to its allies in the Middle East and East Asia and has committed substantial resources to constraining both. The U.S. remains at war in the Muslim world, with thousands of troops on the ground in Afghanistan and a small but stubborn presence in Syria. It’s no coincidence that U.S. government and consumer debt are at historically unprecedented highs.
But even if they weren’t, the global balance of power, while heavily weighted in favor of the U.S., is in a constant state of flux, and other countries are catching up, however slowly. If you want to see evidence that the gap is closing, look no further than the race for power in the periphery – places such as Eastern Europe, the South Pacific, South and Central America, Central Asia, and the Korean Peninsula, those estuarial locales that don’t fit neatly into any one sphere of influence. The U.S. can’t be everywhere at once, and when it tries, it creates opportunities for would-be rivals to improve their standing. In all these regions, the U.S. is courting new allies and using economic incentives and limited military deployments to solidify its position. And in all these regions, the U.S. faces challengers.
The ensuing competition will, in many ways, define the coming year. In 2018, the United States made several changes to its foreign policy. In 2019, it will have to offset the damage those changes caused even as other countries seek to capitalize on them. Call it a reanimation of great power competition. Potential rivals like China and Russia are pursuing imperatives to secure access to raw materials, new markets and strategic territories in the wake of concentrated U.S. efforts to limit their power. Upstart regional powers like Uzbekistan, Brazil and Australia are strengthening their capabilities, forging new international relationships and trying to consolidate power in their respective regions.
In 2019, U.S. allies and competitors alike will jockey for position in far-flung areas of the world that have not been geopolitically relevant for two generations. The U.S. has reached the height of its power, at least in the post-Cold War era. Its military, economic and political strength is unparalleled, so it will be able to meet what’s coming head-on, even if it sows seeds for conflicts it will be less equipped to fight in the future.
Ukraine and Belarus are the two places with the potential for a U.S.-Russia confrontation. Ukraine is at risk of falling apart. Russian influence in Belarus will threaten Poland.
Ukraine is caught in the crossfire of the U.S., the EU and Russia. Nord Stream 2 and TurkStream are expected to be completed in 2019. These pipelines, which connect Russia’s supply of natural gas to the EU and Turkey, circumvent traditional and lucrative natural gas transit routes through Ukraine, giving Moscow further leverage over the government in Kiev. The conflict in eastern Ukraine is frozen but still volatile, and it’s unclear whether Ukraine can govern what’s left of its territory. Russia is better prepared for intervention there than the West is, but Moscow is betting that Ukraine’s internal dysfunctions will eventually bring much of the country, if not the government itself, back into its orbit. At the same time, Ukraine is preparing for a presidential election, slated for March. Polls show no clear frontrunner, so there’s a real chance the political conflict that follows will entangle outside powers, just as it did after the 2014 elections.
Belarus is also concerning. For years, Belarusian President Alexander Lukashenko has juggled relations with the West and Russia, leaning further east or west as necessity dictates. Right now, he is engaging more with the West, much to the chagrin of Russia, which is concerned about increased U.S. military presence in Poland and Romania. Lukashenko has intimated that if a permanent U.S. military base is installed in Poland, Minsk and Moscow may have to respond together. (He has insisted, however, that Russian troops will not be stationed in Belarus.)
In Belarus, as in Ukraine, we do not expect the situation to come apart at the seams – but the competitive forces on both sides are creating tremendous pressure, which, in the shorter term, makes precise developments unpredictable.
China will continue to militarize islands in the South China Sea and build up naval, missile and air power capabilities, making it more difficult for outside powers to operate freely in those waters. Japan will take a bigger leadership role in creating a multinational coalition to contain China. India and Australia will become more prominent in the Indian Ocean and in the South Pacific, respectively.
One of China’s biggest strategic problems is to find a way around the critical maritime chokepoints controlled by the U.S. and its allies along the first island chain and the Strait of Malacca. Beijing cannot yet militarily challenge the U.S. here, and though it could weaken the U.S. containment line by turning one of Washington’s allies, so far it has been unable to do so. But it can afford to play a long game, building up a defensive buffer and attempting to persuade littoral states that their long-term interests will be best served by aligning with China.
These moves will not substantially alter the balance of power this year. Rather, they will continue to compel outside powers – Japan, Australia, India and even European states – to expand their own naval presence in the area, contributing to China’s broader international isolation. The U.S. will continue to flaunt its power around Chinese islands in the South China Sea to remind its allies – and Beijing – that it is willing and able to guarantee regional security. (Doing so will naturally oblige the U.S. to bolster support for Taiwan.) But the United States won’t do anything to substantially roll back China’s expansion or to defend the material interests of its regional partners.
Japan will spearhead efforts to form a multinational coalition to contain China. On the economic front, it will offer foreign investment and aid to countries all but forced into economic dependence on China, and it will promote multilateral trade blocs designed specifically to counter China. It will also enhance its military presence in the East China Sea, South China Sea and Indian Ocean and dole out security assistance to littoral states. To that end, the government in Tokyo will redouble its efforts to lift restrictions on military development. Even if Prime Minister Shinzo Abe fails to push through revisions of Article 9 – the constitutional clause outlawing war – this year, Japan’s broader remilitarization will continue apace, with the Japan Self-Defense Forces boosting investment in new power projection capabilities. Augmenting its efforts will be the slow but steady formation of the Quadrilateral Security Dialogue – “the Quad” – with Australia, the United States and India.
India will take major steps to help contain China, not just through the Quad but also through military cooperation with members of the Association of Southeast Asian Nations. It will prioritize the construction of its own “string of pearls,” building facilities in the Andaman and Nicobar islands while forging agreements for naval access to key U.S., French and Southeast Asian bases around the Horn of Africa and the Strait of Malacca. In addition, India will more forcefully counter Chinese influence on its doorstep, including in Sri Lanka, Seychelles and the Maldives.
Brazil will try to strengthen ties with countries in the Northern Hemisphere.
During his first year in office, Brazilian President Jair Bolsonaro will prioritize structural economic reform and economic recovery. Both will require Brazil to diversify its trade relationships, a pursuit that will intersect with the U.S.-China trade war. As the U.S. cuts commodity exports to China, Brazilian commodities will become all the more important. Brazil will have to balance supplying Chinese markets with trying to improve trade ties with the United States. It also will seek to reduce its economic ties with Argentina in favor of Pacific coast countries like Chile and Peru – a prelude to renewed regional competition between South America’s two largest economies.
The Monroe Doctrine will be relevant for the first time since 1991.
Central America’s continued political volatility will implicate outside powers near and far. It will continue to create migration problems for Mexico and the U.S., both of which will have to deal with the domestic political consequences of allowing in migrants or sending them back. Russia and China, meanwhile, will try to exploit Central American instability to build their influence in the Western Hemisphere. (China has already begun to do so in Panama, for example.) While Central America and the Caribbean are ripe for interference, Russia and China don’t have much to offer. The U.S. will become more heavily engaged in political and economic developments in Central America, having been mostly aloof in the region in 2018.
Uzbekistan will begin to challenge Kazakhstan’s position as Central Asia’s regional power.
Central Asia, an essential figure in famed geopolitical strategist Halford Mackinder’s all-important heartland theory, has long been an arena of competition among the world’s greatest powers. Russia and the U.S. are the most important contestants today, but also present are China, Turkey, Japan, India, South Korea and the EU, and each will work to solidify its presence through investment, joint development and infrastructure projects, and assistance, including military support.
No Central Asian nation is especially powerful, thanks in part to the ways Soviet leaders drew the countries’ borders, but there is a budding contest for regional superiority between Kazakhstan and Uzbekistan. Kazakhstan’s economy and sheer size dwarf those of Uzbekistan. Uzbekistan, however, is Central Asia’s most populous country, has pulled off a major political transition and is actively seeking foreign investment to accompany its political reforms. Kazakhstan has been the undisputed heavyweight in this part of the world for decades, but Uzbekistan is now in a position to start challenging its neighbor’s status. It has no shortage of potential patrons it can try to use to improve its position.
North Korea will not give up its nuclear weapons or substantially dismantle its missile program, but neither will it resume testing intercontinental ballistic missiles. The U.S. will adopt a policy of containment toward North Korea, and U.S.-South Korea interests will further diverge over unification.
There will not be a war over North Korea in 2019. The standoff over the country’s nuclear program has eased because of an implicit “freeze for freeze” agreement between Pyongyang and Washington, involving the suspension of long-range missile tests in exchange for a halt on major military drills. North Korea will not denuclearize or meaningfully reduce its missile program. But, hoping for sanctions relief and international support, it will make modest concessions and stop short of crossing U.S. red lines. The United States, in turn, will quietly shift to a strategy of containment, whereby Washington simply tries to limit the types of weapons Pyongyang has and, to the extent it can, keeps its erratic behavior in check (in other words, prevent an attack on the U.S. mainland). The underlying drivers of the standoff will remain unresolved.
As a result, South Korea and Japan will continue to question the reliability of U.S. security guarantees and so will begin to chart their own course. For South Korea, that means (very gradual) reunification with the North. For Japan, that means remilitarization. The U.S. wants Japan and South Korea to take a larger role in regional security anyway, so we don’t expect Washington to oppose these moves wholesale, but it will try to manage the pace at which they happen. China and Russia will try to exploit the differences in the U.S. alliance structure, though their ability to do so is limited, and the U.S. will seek to use the North Korean issue against them in return.
The U.S. and the Taliban will reach a deal in Afghanistan. By the end of the year, the U.S. will announce a schedule for withdrawing the bulk of its remaining forces from the country.
The United States is currently in direct negotiations with the Taliban, and at least one U.S. official has said Washington hopes to reach an agreement by late April, when Afghanistan is scheduled to hold its presidential election. Reaching a deal would benefit both sides, and all indicators suggest they’ll do so by the end of 2019. Afghanistan is a massive drain on resources that the U.S. needs to reallocate elsewhere. Rival powers, however, will try to keep the U.S. engaged there by encouraging the Taliban, who are trying to keep the gains they fought so hard for, to make the deal unpalatable to Washington. But both sides want to be done with it, and there’s not much outside powers can do to deter them.
It’s no longer heretical to say what even a decade ago would have been deemed sacrilege: The European Union can’t survive in its current form. Even France, one of the EU’s founding members and biggest proponents, has admitted as much. It spent a large part of 2018 urging Germany to support its proposals for EU-wide reforms to create multiple tracks of membership that could accommodate states interested in varying degrees of integration.
It’s not that the European Union no longer has a purpose – it has brought peace and prosperity to its members across Europe, the ultimate goal of its precursor institutions. It’s that the purpose has changed, at least in the eyes of the bloc’s leaders, France and Germany. Consider their positions. The U.S. surpassed Europe in terms of global power long ago, and now China threatens to do the same. At the same time, the U.S. is disengaging from Europe for various reasons. For France and Germany, the only hope for retaining global relevance is through European unity. Alone, they are weak; together, they are much stronger. The EU is, after all, the world’s second-largest economy and could marshal a formidable military if France’s fanciful vision for a European army ever comes to fruition. (Germany lent its support to the idea in November.)
What undermines the EU more than anything else today, then, is that it means different things to different members. For most member states, it’s about free trade, development funding and investment (and some rules they’d rather ignore). For France and Germany, it’s about amplifying their own strength.
It’s undeniable that the European Union is facing challenges from multiple directions. No longer able to influence governments with the offer of membership, however, Paris and Berlin have found their toolkit limited. As a result, in 2019, the standoffs will continue. They may even spread to other member states. It’s a sign of the times. No EU member wants to jump ship and forfeit its role in the German supply chain or the funds it gets from the bloc each year. Even so, the views of many member states about what the EU’s future should look like differ from those of France and Germany, and they are less bashful than ever about voicing their opinions. So long as France and Germany try to use the EU to maintain their positions as the wealthiest and most powerful countries on the Continent, conflicts are bound to arise – not just between member states and Brussels but also within member states.
In the long term, the EU will experience more and more infighting, and its rules and regulations will become almost meaningless. (On issues like migration and deficit targets, they already are.) The economic realities of 2019 may hasten the reckoning, depending on the severity of the slowdown and how broadly it affects EU economies. The European Central Bank is winding down its quantitative easing program in spite of the strain slower global trade is putting on EU economies. If things are this tense now, when unemployment in the bloc is at an all-time low, how will Brussels deal with an economic downturn or, worse yet, another financial crisis, perhaps one related to Italy’s mounting debt?
France and Germany will do everything in their power to keep the EU together. France has no alternative. And for Germany, the alternative is terrible (though it so far hasn’t been willing or able to pay more than the minimum price for keeping the project alive). The problem is that other member states are already chafing under the interventions from Brussels, which is embroiled in disputes with Italy, Hungary and Poland while raking the United Kingdom over the coals over Brexit – a move that could prove very costly for the EU if the U.K. leaves the bloc without a deal. Yet France envisions a future in which Brussels is even more activist. For all these reasons, the confrontation between nationalists and internationalists will present new and dangerous challenges for the European project in 2019.
The European Union and Italy will avoid a major confrontation in 2019. The underlying problems – namely, Italy’s debt-laden economy and political fractiousness – combined with Brussels’ need to assert its authority will make their peace temporary, though it will last the year.
To stimulate the stagnant Italian economy, the euroskeptical government in Rome wants to break its predecessor’s agreement with the EU on future spending plans. The EU has made plenty of exceptions on member states’ budgets before – but not at times like this, and not for governments like this. Brussels has all sorts of acronyms it can threaten Rome with – and even some financial penalties – but it can’t force compliance. Despite the recent announcement of a deal with the European Commission on the budget, Italy – the third-largest economy in the EU-27 and a founding member of the bloc – will be the most dangerous challenge facing the European Union in 2019.
Although Italy’s populist ruling coalition has curbed spending, it has not committed to moving away from any of its major campaign planks, including instituting a basic income and rolling back reforms to the pension system. The European Commission still wants Rome to cut deficit spending and reduce debt. That the two sides have managed to avoid a major confrontation over Italy’s budget in 2019 doesn’t fix the underlying issues. But with warning signals flashing in the global economy, this year will not be the year for a knock-down, drag-out contest between the EU and Italy.
Markets responded exuberantly to the news of an agreement on the budget. But markets are fickle and prone to amnesia. Just because it did some fancy arithmetic to satisfy Brussels this year doesn’t mean Italy’s high levels of debt and the problems generated by chronically slow growth are going anywhere. The EU survived a dire debt crisis in Greece, but it has yet to fully recover, and, owing largely to German intransigence, it hasn’t completed reforms that would help it survive another one. Italy’s economy is almost 10 times the size of Greece’s, so the EU bureaucracy must be more delicate in bringing Italy to heel than it was with Athens. Make no mistake, though: A similar issue is brewing between the two sides. As the global economy weakens and the Italian government struggles to deliver on its promises, the fragile truce between Italy and the EU will come under considerable pressure.
While we expect the agreement to endure, euroskepticism in Italy will not disappear, and the EU’s hard line and double standard in dealing with as central a member as Italy will reverberate throughout the bloc.
The U.K. will leave the EU with an agreement in place. The compromises the British government will make to do so will divide the United Kingdom.
The soap opera that is the Brexit negotiations will, at last, draw to a close in March – or, at least, the first season will reach its finale. Despite the political drama that has surrounded the talks, we still believe that maintaining a coherent and productive trade relationship is in the interests of both sides. The government of Prime Minister Theresa May has come under intense scrutiny over the deal it reached with Brussels in November, but no alternative plan has emerged. It’s one thing to criticize the deal and quite another to vote against it – doing so would risk sending the U.K. out of the EU without an agreement.
Domestic politics complicate the situation. Geopolitics can account for sudden changes in popular sentiment no more than it can predict the results of individual elections. The British electorate, who set Brexit in motion with a narrow vote to leave the EU two years ago, will help determine the outcome. Still, the dominant forces are pushing for a deal, and, assuming one is made, two key questions will remain: What will be the U.K.’s future relationship with the EU, and what will be the future of the U.K. itself?
The United Kingdom maintains a close security relationship with several European states, especially France, Poland and the Baltic countries. It’s also an important trade partner for major EU economies such as Germany and the Netherlands. Deal or no deal, those relationships will continue, and the U.K. will be an important ally for EU states on the periphery seeking to balance against Germany and France.
Its future is a different story. Much will depend on the deal, but the same forces that compelled the United Kingdom to leave the bloc threaten its unity, too. If a Brexit deal ends up disproportionately hurting Scotland, for example, it could create renewed calls for Scottish independence. (The same could be true if the EU decides to let Scotland back in the bloc without having to start the application process from scratch.) Northern Ireland is also in an unstable position. The sectarian issues that led to the Troubles are still simmering, the peace held together by the 1998 Good Friday Agreement is fragile, and the economy is under significant pressure.
These, however, are questions for another year. This year will be about setting the terms of Brexit once and for all. In the end, Brexit will have two lasting effects. First, it will hamper the EU’s drive for global relevance by depriving it of a leading European power. Second, it will demonstrate how powerful the bloc still is relative to any single member.
Economic difficulties and political differences in the EU will exacerbate popular disillusionment with establishment politicians and parties on the left and right.
It seems the only country in Europe whose government has widespread popular support right now is Hungary. In every other country on the Continent, politics have been turned upside down. French President Emmanuel Macron’s approval ratings are slipping, and protests in late 2018 suggest his government is facing serious resistance. German Chancellor Angela Merkel has said her current term will be her last, and the ruling Christian Democratic Union party has already elected a new leader. And in Poland, upcoming elections could bring in a more pro-EU government, which would be a major sea change for politics in Eastern Europe. This is an old story, but if we are right about the depth of the economic struggles facing the EU, the dynamics at work here will be magnified.
Iran’s Enemies Strike Back
The center of gravity in the Middle East in 2016 and 2017 was the rise and fall of the Islamic State. In 2018, it was Iran’s attempt to fill the power vacuum left by the jihadist group’s demise. A coalition then formed to push Iran back. In 2019, then, the center of gravity will be the coalition’s efforts to that end. The country best positioned to profit from this development is Turkey, which owes its fortunes less to its own cunning than to the dynamics at play around it. Besides, Turkey is not without its own challenges. It is not yet up to the task of countering Russia as an equal, and its economy is still in dire straits. But relative to the region’s other powers, it is in an excellent strategic position. Turkey’s emergence as a regional leader will accelerate by default. The region’s three other major powers – Saudi Arabia, Israel and Iran – are all under significant pressure.
Over the past few months, Saudi Arabia has become synonymous with the murder of journalist Jamal Khashoggi. But Khashoggi’s murder is more than just a media sensation – it’s a symptom of the brittleness of Saudi power. Global oil production, especially U.S. production, has driven down the price of oil. And when oil prices fall, Saudi power wanes. The country’s nominal ruler, King Salman, is an octogenarian with a proven history of health problems and an unproven case of dementia. His chosen successor, Crown Prince Mohammed bin Salman, was a controversial figure even before he came under wide suspicion of ordering Khashoggi’s death. Our long-term forecast for Saudi Arabia is pessimistic: We continue to doubt whether the kingdom will last long in its present form. That said, in 2019 it should endure – much to Iran’s detriment.
Israel, meanwhile, has started to stir. While the Syrian civil war raged, the country was more secure than at any other point in its short history. Now that the government of Bashar Assad is securely in place, an Iranian proxy state has been reinstalled on its northern border. The Assad government has both the means and will to supply Iranian-allied militia groups, most notably Hezbollah, with arms such as precision-guided missiles, anti-tank weapons and anti-ship missiles that could inflict serious damage on Israel. Israel has responded by going on the offensive in Syria, seeking a long-term truce with Hamas, and cultivating allies in Saudi Arabia and the United Arab Emirates.
Then, of course, there’s Iran. Iran has managed to project power beyond the Zagros Mountains on its western border. Its Shiite militias known as Popular Mobilization Forces are being assimilated into the Iraqi military. (Or is it the other way around? After all, PMF groups were instrumental in defeating the Islamic State after the Iraqi armed forces dissolved and fled.) Iran is also a major player in Iraqi politics. What’s more, its military forces in Syria are there to stay, at least for the time being, and it boasts proxies in Lebanon and Yemen that directly threaten its rivals, Israel and Saudi Arabia. Iran’s greatest weakness is at home. The U.S., which worked with it to defeat the Islamic State, revoked the Iran nuclear deal primarily out of concern about Iran’s growing ambitions in the region. In doing so, Washington sent the Iranian economy into a tailspin, putting tremendous pressure on the government amid a battle for political power between the Islamic Revolutionary Guard Corps and the political ruling class.
Much of what happens in the Middle East in 2019 will depend on the U.S. imperative to prevent Iran from becoming too powerful, something Washington will pursue by leaning on regional allies. Iran will face enemies in Syria and Iraq, as well as at home. It will contend with a more active, possibly U.S.-funded Kurdish insurgency in its northwest and with Arab opposition, possibly Saudi-funded, in Khuzestan and in Sistan and Baluchestan. All the while, it will have less money to spend on its social programs, reduced funding for which already led to mass protests earlier this year.
Iran’s precarious situation, Israel’s deteriorating security environment, Saudi Arabia’s delicate power base and the United States’ push for regime change in Iran all lead to one inescapable outcome: a relatively stronger Turkey. By undercutting one would-be regional hegemon, the U.S. is effectively gift-wrapping that status for another.
Iran’s position in Syria and Yemen will weaken.
Now that the Assad government has secured control of most of Syria, it will stop focusing so much on fighting insurgents so that it can try to rebuild its war-torn country. Iran was an important ally for the government, providing foot soldiers for ground combat, but what Syria needs now is reconstruction funding, and plenty of it. Iran is in no position to provide that capital. The U.S. has isolated it economically. Iranians are losing spending power and facing food rationing, problems made worse by a nationwide drought. Similarly, Russia, the Syrian government’s other main backer, may no longer be the benefactor it once was. It did not prop Assad up so that he could become an Iranian puppet. Moscow wants a legitimate counterweight to Turkey, and that means ensuring the Assad government is strong enough to stand on its own. The country best suited to meet Syria’s immediate needs is Saudi Arabia, which, unlike Iran, is still a part of the global trading system and sits on some $500 billion in foreign reserves.
If Iran’s position in Syria is tenuous, so too is its position in Yemen. The war there has been a costly endeavor for all involved – most of all for the untold millions of civilians who lack access to food and medical care. The Saudi-led coalition, with nudging from the United States, will try to bring the conflict to a close. Iran likely will be on board with this plan because it simply does not have the resources to keep supporting its proxies in the civil war. But it will aim to trade downsizing its involvement in Yemen for concessions on sanctions or a new deal with the United States on nuclear weapons and domestic missile production.
Israel will attack Hezbollah in Lebanon.
Hezbollah has crossed Israel’s red line. It is acquiring advanced precision-guided munitions from Iran and, according to Israel, manufacturing them inside Lebanon. These weapons acquisitions pose a greater threat than Israel will tolerate. Its position is that it must pre-empt potential threats, and it is already outlining its justification for attacking Hezbollah. Hezbollah, moreover, is weaker from its time spent fighting in the Syrian civil war; Israel knows it will not have a better opportunity to neutralize the group than it does now.
Its last war against Hezbollah did not go well, though. Airstrikes can do only so much damage to a well-provisioned and fortified enemy, and Hezbollah, unlike Hamas, is both. Since Hezbollah is operating in Lebanon, an effective Israeli operation will probably require a ground invasion, but Israel does not want to commit the necessary troops. This kind of operation will also violate Lebanese sovereignty and cause a great deal of collateral damage, no matter how scrupulous Israel is in its attack.
Knowing this, Israel will try to limit the scope of any conflict. Its primary goal will be to deter Hezbollah. The most likely scenario, then, will be an air campaign designed to cut off supply routes between Iran and Hezbollah through Syria and to destroy factories and storage sites for guided munitions. Israel will focus on weakening Iran through operations in Syria, but to curb the Hezbollah threat, it will eventually have to target the group in Lebanon. At that point, things could escalate quickly.
Turkey will increase its military presence in Syria. The U.S. will make limited territorial concessions to Turkey on Kurdish autonomy.
Turkey is in northern Syria to stay, and it will commit more of its military to the area in 2019. In Idlib, Turkey would prefer to deal with jihadist groups such as Hayat Tahrir al-Sham, the al-Qaida offshoot, on its own rather than accept the “help” of a Syrian army invasion. In northern Syria, it will aim to pacify its conquered territory and may launch operations against Kurdish positions farther east.
But the issue of Syria’s Kurds is difficult for Turkey. Ankara is not ready to confront Moscow without Washington’s support, so it must retain at least some sort of alliance with the U.S. Yet the United States supports the Kurds, and Turkey considers that support a direct threat to its national security. Furthermore, the U.S. wants Turkey to assume a more active role in managing the region – i.e., combating jihadism and pushing back against Iran. Turkey isn’t interested in deploying its forces deep into the Syrian desert to mop up the remnants of the Islamic State, and, in any case, it benefits from its relationship with Iran. (The U.S. sanctions campaign is doing Turkey’s dirty work: Ankara can maintain its relationship with Tehran, its biggest potential rival in the Middle East, without having to go against it.)
These snags notwithstanding, the uneasy partnership between the U.S. and Turkey will remain in place. So long as the Islamic State is a threat – and it is – the U.S. will not sell out the Syrian Kurds entirely. It will, however, offer limited concessions to Ankara, perhaps forcing the Syrian Kurds to cede some territory either to local Syrian forces or to Turkey directly, without undermining Syrian Kurdish territorial integrity or compromising operations against the Islamic State in eastern Syria. Because the U.S. needs Turkey to counter Russia in the South Caucasus and in the Black Sea, its support for Syrian Kurds in 2019 will be a matter of convenience.
Turkey will increase drilling in the eastern Mediterranean and repel foreign presence in what it considers to be its exclusive economic zone around Northern Cyprus.
The eastern Mediterranean is once again the site of competition between Turkey and Western Europe. The growing imperative to achieve greater energy independence from Russia and Iran has compelled Turkey to be more assertive in its territorial claims around Northern Cyprus. It will not come to blows with a Western European power, but it will try aggressively to get concessions from European energy companies. In confrontations with Western Europe, Turkey’s key point of leverage has been, and will remain, Syrian refugees, whom it has housed in exchange for political considerations and financial support. When necessary, though, Ankara will back up its negotiating position with shows of force – an early sign of more serious developments to come, namely, Turkey standing up to Europe.
Editor’s note: An earlier version of this report misstated the size of the U.S. economy. It is nearly a quarter of the global economy.