Geopolitical Risks

AP PHOTO/QASSIM ABDUL-ZAHRA

American soldiers stand amid damage at the site of an Iranian missile attack on 13 Jan. 2020 at Ain al-Asad air base in Anbar, Iraq. The US air base was struck by a barrage of Iranian missiles on Wednesday in retaliation for the US drone strike that killed top Iranian commander Gen. Qassem Soleimani, which has raised fears of a possible war in the Middle East amid US-Iran tensions.

Although the tension between the United States and Iran has begun to ease, the geopolitical risks will not disappear. In April 2019, JP Morgan warned that global financial prospects would be greatly influenced by the increasing trend of geopolitical risks.

Morgan Stanley released in December 2019 its projection of 10 geopolitical risks in 2020, which ranked the Iran issue ninth. While the BlackRock Investment Institute (investment management) also revealed in December 2019 the potential of increased conflict in the Gulf region, with the US as the main actor.

Conflict between the US and Iran have occurred since 1979, during the Islamic Revolution under Ayatollah Khomeini. More recently, tensions escalated when the US withdrew in 2018 from the nuclear agreement with Iran and followed with economic sanctions.

At the end of 2019, BlackRock still believed that the potential for open conflict between the two nations was minimal. But that potential risk has been realized now. The US drone strike that killed Qasem Soleimani caused a sharp increase in the world oil price amid concerns over the impacts of Soleimani’s killing on global financial markets.

The oil price rose to US$70 per barrel, the highest since the September 2019 Houthi drone attack on Saudi Arabian refineries. The FTSE 100 of the London Stock Exchange fell 0.6 percent, while the S&P 500 and the Dow Jones Industrial Average on the New York Stock Exchange also dropped slightly (The Guardian, 1/6/2020).

However, the oil price has continued to fall even after US-Iran tension has eased. On Wednesday (8/1), the Brent crude price fell more than 3 percent to $65.78 per barrel, while West Texas intermediate (WTI) crude dropped more than 4 percent in New York (BBC News, 1/8/2020).

KOMPAS/ABDULLAH FIKRI ASHRI

Workers check a tank storing crude oil on Tuesday (11/5/2019) at PT Pertamina EP Asset 3 at Jatibarang Field in Sumberjaya, Majalengka regency, West Java.

Structural impact

As regards the US-Iran conflict, many analysts predict that it would not continue. Even if open war is inevitable, they believe that it would have limited impact on the oil price.

Observers said the oil price would rise above $100 per barrel if the main distribution route in the Strait of Hormuz were closed. However, because many countries have an interest in the world\'s main logistics channel for oil, the risk of closure has been minimal, at least to date.

If the direct impact of Gulf tensions is considered not very serious, then why should we worry? Moreover, the US-Iran conflict makes for only a small part of global geopolitical risks.

The problem is that geopolitical risks are generally increasing and tend to be permanent.

A series of consecutive geopolitical risks have occurred, ranging from the US-China trade war, Brexit and conflicts in Europe, as well as other conflicts in Latin America, Hong Kong and the Gulf.

Increased geopolitical risk has a direct impact on the global economy. First, the flow of global trade and investment has begun to decline, especially since the US-China trade war. Second, the industrial supply chain has also changed amid the slump in economic output. Third, the weakening trend in coordination between countries means that economic problems will be more difficult to solve.

Although it is improving, the global economy remains fragile and uncertain.

In its latest report, Global Economic Prospects 2020, the World Bank has projected global growth of 2.5 percent in 2020, a slight increase from 2.4 percent in 2019. Although it is improving, the global economy remains fragile and uncertain.

One source of this fragility is debt accumulation, which has reached its highest level since the 1970s. The increase in debt ratios, both in developed and developing countries, is inseparable from a global economy that has weakened since the 2008 crisis. A large amount of government bonds has been issued in an effort to stimulate the economy.

The problem is, after a decade of struggling with the crisis, economic productivity has not improved. Even now, the production side is experiencing problems with stagnation. If a production crisis occurs, the economy will see prolonged stagnation because stimuli can no longer be given.

The World Bank also recommends reform on the production side by improving productivity and developing more inclusive, long-term growth.

Meanwhile, productivity in the real sector has tended to weaken.

The domestic economy has also been experiencing a similar problem. Since the 1998 crisis, our economy has not been supported by adequate productivity in the industrial sector. The economy is driven more by rising commodity prices and the service sector. Meanwhile, productivity in the real sector has tended to weaken.

Weakening productivity and competitiveness is reflected in acute current account problems, especially the balance of trade. In connection with the conflicts in the Middle East, the potential increase in the oil price is a very serious threat, considering the very large deficit in our oil and gas trade.

With increase geopolitical risks and global risks of stagnation, now is the time to change and encourage productivity and competitiveness. Productivity is determined by three main factors: capital, labor (quality of human resources) and technology.

AFP/JIM WATSON

US President Donald Trump welcomes Chinese President Xi Jinping on 6 April 6 2017 at his Mar-a-Lago luxury club in Florida, USA.

The government has so far focused on raising capital by boosting foreign investment. Efforts are underway in improving human resource quality. What about the use of technology to increase productivity?

The Finance Ministry, together with the Asian Development Bank (ADB), released its “Innovate Indonesia” study at the Annual International Forum on Economic Development and Public Policy (AIFED) in Bali (5-6/12/2019). The study shows that the way forward is adopting technology towards increasing productivity and the domestic economy’s competitiveness.

There is no easy way, because technology is not merely a technical matter but also an institutional matter and an issue of competence. Although the main factors that drive productivity are capital, human resources and technology, other institutional factors are also important. Without institutional transformation, the efforts to boost productivity and competitiveness cannot be maximized.

KOMPAS/HERU SRI KUMORO

A Prasetyantoko

The government has been progressive in overhauling regulations through the planned omnibus law for both taxation and job creation. It appears to be oriented towards attracting foreign capital. However, without bureaucratic reform, the efforts to encourage the economy will be in vain.

We have released 16 economic policy packages, but their impacts have been far below expectations. This experience is a valuable lesson for the government’s plan to issue the omnibus law. Let us not end up in a similar situation.