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Inflation, China Covid Response and Ukraine Top 2023 Risk Charts

Inflation, China Covid Response and Ukraine Top 2023 Risk Charts

David Cottle, Analyst


Top 2023 Risks - Inflation, China Covid Response, Russia-Ukraine War

  • Inflation is hoped to loosen its grip in 2023. What if it doesn’t?
  • China’s Covid response has changed, but it’s huge problems with the virus haven’t
  • Russia is mired in Ukraine, but shows little appetite to leave
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From bloody war in Ukraine through Covid’s grim legacy and on to the terrible return of inflation – a dragon long-thought slain – 2022 saw the world adrift on a storm-tide of troubles. And, for all the New Year forecasts cascading out of banks, economic houses, fund managers and the like, that tide will keep running, indifferent to the calendar.

However, as we gaze nervously into the undiscovered country of 2023, it’s surely worth considering which “event risks” are likely to loom the largest on an unfortunately wide horizon of grim possibilities.

Here are the top three to keep a special weather eye on as 2023 gets underway…


1. Inflation Doesn’t Lie Down.

In a world riven by actual and potential wars, it may seem either callous or naïve to place an economic factor at the top of the list, but we’re not going to apologize.

The International Monetary Fund thinks that global consumer price inflation could have hit 8.8% this year. If so, that will be highest print since 1996. And surely that’s bad enough, but, in places, the situation is much worse. The United Kingdom and European Union have seen inflation rise into double digits, scaling multi-decade peaks in the process.

Of course, the monetary authorities reacted. The United States Federal Reserve has increased base rates by four and a quarter percentage points this year. It looks set to raise them further. Other central banks have followed suit.

There are very tentative signs that the medicine is working and that prices may begin to stabilize and even fall. The Fed has publicly hoped so, as has the Bank of England.

We’d better all hope that those hopes are justified.

Cheap money and low-if-not-negative real borrowing costs have been the norms for at least twenty years. Many business and personal borrowers are simply not able to cope if they rise. Plenty clearly can’t deal with rises already in place.

So, the specter of an awful credit crunch glowers over a global economy awash with debt and scrabbling for growth. Recessions may come across the West now whatever happens. Persistent inflation, and the even-higher interest rates it would demand, will only make matters worse. The Eurozone’s peculiar architecture renders it especially vulnerable. Stronger member states such as Germany will clamor for higher interest rates which more indebted partners such as Spain and Italy can ill afford them.

But nowhere is immune.

For sure peace in Ukraine would help, but even that would be no immediate panacea.

The worlds’ new-found nervous enthusiasm for the monthly inflation figures will show no sign of waning as 2023 gets going.


2. China Bungles Its Covid Response

Shaken from effective perma-lockdown and a draconian policy of isolating all Covid infections by rare, widespread public protests, the Chinese authorities have rowed back some of their more severe anti-virus measures.

Those infected are no longer forced into spartan state holding facilities. Travel has been made easier and freer around the country. However, even these modest measures have come with a price. Health authorities both inside and outside China have raised concerns about the lack of ‘herd immunity,’ thanks to long lockdowns, along with relatively low vaccination rates among vulnerable older people. Worries about the efficacy of locally produced vaccines compared to Western products complete the gloomy picture.

With infection levels running at many thousands per day, it’s little wonder that China’s Covid response should top many analysts’ list of concerns about 2023.

After all the Chinese economy has been an engine of global growth for decades, expanding much faster than Western rivals and sucking in raw materials at previously unprecedented rates. China’s debt has ballooned almost as impressively as its economy however, and anything which hampers economic function is going to have sobering consequences.

Indeed, analysts at S&P Global have called China’s Covid response the most important factor for energy markets in 2023, with demand levels in the country crucial for the sector, among others.

The inference is clear and serious enough: the world won’t return to anything like ‘pre-Covid normal’ until China does. And China is nowhere near there yet.


3. The Ukraine War Spills Over

If Russian President Vladimir Putin really did launch his attack on Ukraine back in February 2022 expecting a quick and durable victory, then clearly, he miscalculated. The unity of democratic states ranged against him over his “special military operation” has perhaps been one of 2022’s few silver linings. Even usual Putin allies such as China and India have failed to offer support of the kind given to Russia previously.

That said there seems little chance of a new year bringing any change of heart in the Kremlin, despite this year’s unpopular mobilization of Russian army reservists. Putin remains defiant and now seems intent on blaming the West for forcing his hand over his near neighbor. If Russia continues to regard Western arms shipments to Ukraine as legitimate targets, the possibility of an accidental direct confrontation between Russia and NATO will remain.

The war presents a number of interconnected risks, with perhaps the most serious of those the threat that Russia might deploy a tactical nuclear weapon if Ukrainian forces appear to be making headway towards Crimea. Russia may yet play for time, hoping that splits emerge in Western unity and that life without Russian gas this winter will see support for Ukraine in Europe start to ebb. There’s little sign of that so far, but the conflict remains a huge potential risk event, one that of course feeds back to the inflation picture via a number of channels, notably energy and commodity prices, that a still fragile global economy doesn’t need.

-- by David Cottle for DailyFX

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